One of the best indicators of a recession is the shape of the yield curve. If it is inverted, there is a high probability of a recession. It provides about a 9 month lead and has preceded every US recession. When it is steeply positive, the likelihood of a recession is low.
By this measure there is almost no chance of a recession in the US at this time. This is what the Fed is hoping for. This is what the stock market has expected for the last year. Banks are making money on the steep spread. This time the yield curve indicator may be wrong.
The issue is with the type of recession that we are facing. A credit crisis is different from a normal recession. All of the inverted yield curves were associated with inventory builds or tight monetary policy. We do not have tight monetary policy at least as measured by the Fed balance sheet. We may have tight policy based on the lack of actual lending. However, watch short rates closely. LIBOR is moving higher as well as swap spreads while Treasuries are moving lower. We may get a flatter curve yet.
Nevertheless, this time is different. A large balance sheet recession needs a retrenchment in borrowing which may be independent of the yield curve shape.
By this measure there is almost no chance of a recession in the US at this time. This is what the Fed is hoping for. This is what the stock market has expected for the last year. Banks are making money on the steep spread. This time the yield curve indicator may be wrong.
The issue is with the type of recession that we are facing. A credit crisis is different from a normal recession. All of the inverted yield curves were associated with inventory builds or tight monetary policy. We do not have tight monetary policy at least as measured by the Fed balance sheet. We may have tight policy based on the lack of actual lending. However, watch short rates closely. LIBOR is moving higher as well as swap spreads while Treasuries are moving lower. We may get a flatter curve yet.
Nevertheless, this time is different. A large balance sheet recession needs a retrenchment in borrowing which may be independent of the yield curve shape.
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