The current state of Treasury yields is a topic ripe for interpretation, yet few seem to delve into its implications. What are these yields truly signaling about the economy?
Similar to Southern California’s infamous June Gloom, the significance of Treasury yields can often be misleading. Are investors bracing for either deflation or inflation? Are these yields reacting to market shifts or external influences, such as interventions by central banks?
This year, amidst the much-discussed idea of “Trumpflation,” the yield on the 10-Year note has actually decreased rather than risen. It began the year at 2.44 percent and, as of last Thursday’s market close, had fallen to 2.22 percent.
At first glance, this decline suggests a general indifference toward inflation. Speculation indicates that there are doubts about Trump’s ability to pass his spending bill through Congress. Without this fiscal stimulus, the argument goes, inflation is less likely. But does this genuinely correlate with market realities? What deeper truths do Treasury yields reveal?
Contemplating Treasury yields is akin to a baker scrutinizing the microbiology of bread yeast—an elusive art best learned through experience. We’ve noticed that gleaning insights from Treasury yields requires a combination of listening to current trends while keeping an eye on future developments. Here’s what we mean:
A Flattening Yield Curve
When you chart interest rates for Treasuries across different maturities, you create what economists refer to as a “yield curve.” For instance, plotting three-month, two-year, five-year, and 30-year Treasury securities yields a curve often used to gauge various lending rates. More crucially, its shape can indicate anticipated shifts in economic growth.
In a thriving economy, a normal yield curve typically emerges, where long-term Treasuries offer higher yields than their shorter-term counterparts. This reflects the expected market risks and inflation further down the line. However, just before a recession, the yield curve can invert, with shorter-term yields surpassing longer-term ones.
Currently, the yield curve is flattening—could it soon turn inverted? According to FXSTREET, here’s a breakdown:
“Five years ago, long-term interest rates were nearly where they are today, with short-term rates close to the zero level of the overnight federal funds rate. At the end of 2014, when the Fed concluded Quantitative Easing (QE), short-term rates remained stagnant while the middle of the yield curve saw an uptick. Today’s long-term rates are roughly the same as they were in 2014.”
“What’s concerning is that markets seem to doubt the likelihood of inflation or economic growth.”
Recession Watch Fall 2017
According to the Treasury market, it seems that economic growth may be stalling. The Great Recession officially concluded in June 2009, yet the subsequent recovery has been lackluster, barely noticeable to many.
While the unemployment rate has declined and GDP has seen slight increases, real incomes have only just returned to levels seen in the early 2000s. Wealth appears to have concentrated in the hands of a few, leaving the rest to scrape by with minimal returns.
Additionally, unemployment, GDP, and income levels have all been influenced by the Fed’s questionable monetary policies—policies that inflated stock market and real estate prices while suppressing interest rates. This same monetary manipulation has proven difficult for the Fed to withdraw from the economy.
Is it possible we may face another recession before the Fed completes its ‘normalization’ efforts? With our ear to the ground and eyes on the future, it seems increasingly likely.
Many of the conditions that preceded the last recession—excessive public and private debt and asset bubbles—still loom large today, and in many cases, they are even more pronounced. The continued effort to solve a debt crisis with more debt only sets us up for an even more severe economic downturn.
Right now, this impending recession appears as dark storm clouds gathering on the horizon, ready to unleash their fury by fall.
Sincerely,
MN Gordon
for Economic Prism
