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Stock markets fell on Friday as investors digested a worrying warning sign: long-term public debt interest rates fell below the rate of short-term bonds. This is often the sign that a recession is on the horizon.
The Dow Jones Industrial Average Index fell more than 460 points on Friday, or about 1.8%. The broader S & P 500 index fell 1.9%.
Usually, long-term debt yields are higher, just as 10-year certificates of deposit tend to pay higher interest rates than three-month CDs.
Link observers get nervous when this typical pattern is reversed.
"We do not see this happening so often, but when that happens, it's almost always bad news," said Campbell Harvey, a professor of finance at Duke University.
That's why the witnesses started to flicker on Friday morning when the 10-year Treasury bill yield fell below that of the three-month note. The last time this happened was just before the Great Recession.
Harvey has been carefully monitoring these rare "inverted" yield curves for more than 30 years and sees them as a kind of early warning signal.
"My indicator has successfully predicted four of the last four recessions," he said, "including a pretty big call before the global financial crisis."
Harvey actually predicts a recession only if the yield curve remains inverted for at least three months. But even a flat curve – in which long-term returns are slightly higher than short-term yields – could indicate that the economy is losing steam.
"It's possible we're avoiding a recession, but economic growth will be weaker, much weaker," Harvey said.
On Wednesday, the Federal Reserve lowered its own economic growth forecast to just over 2% for the year and indicated that it was unlikely that it would raise interest rates. in 2019.
Fed Chairman Jerome Powell said the slowdown in growth in China and Europe has "headwinds" for the US economy. And ongoing trade disputes are not helping. "There is a lot of uncertainty," Powell said.
The unemployment rate is at 3.8%, but the economy has added only 20,000 jobs in February. It was much less than expected by economists and the smallest gain since September 2017.
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