Yes, the reverse yield curve suggests something, but not a recession

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The data gurus are still there: they are looking for correlations and discovering inverted yield curves before recessions. And, look – the returns are reversed today. Oh man! We can now predict with certainty that a recession will be announced.

Well … unfortunately, this general belief is problematic. The forces behind today's inverse yield curve are totally different – even opposite – from those of the past.

Let's start with the graph that data gurus consider positive proof …

Okay, the photo is interesting, but what about the causal factors? The common factor in reverse yield curves is the "tight money supply". This term is simple, but must be understood. Investopedia provides a good explanation (the underline is mine):

Restricted money, also called expensive money, results from a shortage of money when monetary policy reduces the money supply and the amount of money that banks must lend in order to slow down economic activity.

It's not the interest rates that determine whether money is loose or tight – if capital generally imposes a higher price when the money supply is restricted – it is the supply and demand of money.

As a general rule, the Fed increases money supply during a recession and restricts it when the economy overheats.

Each period of restricted liquidity had overheating problems, as well as ups and downs. & Nbsp; The following are the periods of the inverse yield curve:

1990 – Here are the problems that caused the problems. The mid-1990s was a terrible period for banks (Citibank, for example, had lost 50% of its value in three months). (Underline is mine)

The main factors that would have led to the recession include: restrictive monetary policy adopted by central banks, mainly in response to inflation fears, loss of confidence of consumers and businesses following the oil shock of 1990, end of the cold The war and the subsequent decrease in defense spending, the crisis of savings and loans and the slowdown in office construction resulting from excessive construction in the 1980s.

Wikipedia – "Beginning of the recession of the 1990s"

1998/9 – No, there is no recession here, but there is a temporarily reversed yield curve. Note that the reason for this is that the yield on 10-year bonds has fallen below the short-term level. Then he rose and everything was fine.

2000 – The biggest problem was the Internet bubble that erupted in March. Note that the restrictive monetary policy continued until the 2001 recession

2008 – The Great Recession was the culmination of a number of factors of strong growth and strong expansion, especially in the related real estate and financial bubbles. Note the long period of monetary tightening before the official start of the recession

2019 – There is this 1998/99 stock again, with the 10-year yield falling below the short-term yield

So, how are we going to see today's inverted curve?

We must begin by keeping in mind how we got here: during a period of abnormally low (near zero) Fed – induced rates. Instead of setting short-term rates on capital markets, the Fed has kept them at a negative real return for a decade.

We can now turn to recent history because the US Federal Reserve has slowly allowed the key rate to return to normal, that is, to approach the level that capital markets would have reached with a supply and normal request.

The problem is that they have encountered another anomaly: signs and concerns about slower growth. Are "higher" rates (although still lower than normal) the cause? No, but the fortuitous picture was there and affected the thought of the Fed. As a result, & nbsp; the Fed announced a "break".

Then, as worries about slower growth and rising tariffs increased, the Fed spoke of the possibility of lowering rates. This probability has entered the fixed income market's expectations, making it more desirable to hold longer-term bonds.

And & nbsp; then the investors acted. Longer rates fell, which made investors doubly satisfied with higher yields and newly acquired gains. The 10-year rate has therefore exceeded the short rate determined by the Fed at the moment.

The bottom line

The simple correlation of the inverse = recession of data gurus is wrong for this period. The Federal Reserve is still supplying the capital markets with the short-term rate. Concerned about the slowdown in growth (and perhaps the fact that they may have caused some of the slowdown), the Fed could even lower rates again. This means that bonds are looking good again. Investors want to keep these returns before the returns of their money market funds decline.

As a result, the United States is not heading for a recession because of a crisis economy and a boom / bubble that has caused the Federal Reserve to cool the economy with a monetary stance. restrictive. Instead, interest rates stay low and can even be lowered.

Does this mean that a recession can not happen? No, because economic problems could cause a slowdown. However, if easy money can save the situation, a recession will be avoided.

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The data gurus are still there: they are looking for correlations and discovering inverted yield curves before recessions. And, look – the returns are reversed today. Oh man! We can now predict with certainty that a recession will be announced.

Well … unfortunately, this general belief is problematic. The forces behind today's inverse yield curve are totally different – even opposite – from those of the past.

Let's start with the graph that data gurus consider positive proof …

Okay, the photo is interesting, but what about the causal factors? The common factor in reverse yield curves is the "tight money supply". This term is simple, but must be understood. Investopedia provides a good explanation (the underline is mine):

Restricted money, also called expensive money, results from a shortage of money when monetary policy reduces the money supply and the amount of money that banks must lend in order to slow down economic activity.

It's not the interest rates that determine whether money is loose or tight – if capital generally imposes a higher price when the money supply is restricted – it is the supply and demand of money.

As a general rule, the Fed increases money supply during a recession and restricts it when the economy overheats.

Each period of monetary tightening had problems of overheating and explosions / bubbles. The following are the periods of the inverse yield curve:

1990 – Here are the problems that caused the problems. The mid-1990s was a terrible period for banks (Citibank, for example, had lost 50% of its value in three months). (Underline is mine)

The main factors that would have led to the recession include: restrictive monetary policy adopted by central banks, mainly in response to inflation fears, loss of confidence of consumers and businesses following the oil shock of 1990, end of the cold The war and the subsequent decrease in defense spending, the crisis of savings and loans and the slowdown in office construction resulting from excessive construction in the 1980s.

Wikipedia – "Recession of the early 1990s"

1998/9 – No, there is no recession here, but there is a temporarily reversed yield curve. Note that the reason for this is that the yield on 10-year bonds has fallen below the short-term level. Then he rose and everything was fine.

2000 – The biggest problem was the Internet bubble that erupted in March. Note that the restrictive monetary policy continued until the 2001 recession

2008 – The Great Recession was the culmination of a number of factors of strong growth and strong expansion, especially in the related real estate and financial bubbles. Note the long period of monetary tightening before the official start of the recession

2019 – There is this 1998/99 stock again, with the 10-year yield falling below the short-term yield

So, how are we going to see today's inverted curve?

We must begin by keeping in mind how we got here: during a period of abnormally low (near zero) Fed – induced rates. Instead of setting short-term rates on capital markets, the Fed has kept them at a negative real return for a decade.

We can now turn to recent history because the US Federal Reserve has slowly allowed the key rate to return to normal, that is, to approach the level that capital markets would have reached with a supply and normal request.

The problem is that they have encountered another anomaly: signs and concerns about slower growth. Are "higher" rates (although still lower than normal) the cause? No, but the fortuitous picture was there and affected the thought of the Fed. As a result, the Fed has announced a "break".

Then, as worries about slower growth and rising tariffs increased, the Fed spoke of the possibility of lowering rates. This probability has entered the fixed income market's expectations, making holding longer-term bonds more desirable.

And investors have acted. Longer rates fell, which made investors doubly satisfied with higher yields and newly acquired gains. The 10-year rate has therefore crossed the short rate determined by the Fed for the moment.

The bottom line

The simple correlation of the inverse = recession of data gurus is wrong for this period. The Federal Reserve is still supplying the capital markets with the short-term rate. Concerned about the slowdown in growth (and perhaps the fact that they may have caused some of the slowdown), the Fed could even lower rates again. This means that bonds are looking good again. Investors want to keep these returns before the returns of their money market funds decline.

As a result, the United States is not heading for a recession because of a crisis economy and a boom / bubble that has caused the Federal Reserve to cool the economy with a monetary stance. restrictive. Instead, interest rates stay low and can even be lowered.

Does this mean that a recession can not happen? No, because economic problems could cause a slowdown. However, if easy money can save the situation, a recession will be avoided.