- Bloomberg.com – Caroline Baum: Recession Forecasts? Yield Curve Says No Way
Green shoots are proliferating in gardens across America, but for some forecasters it already looks like the end of summer. A few are even hinting at recession by year-end. That’s highly unlikely. While black swans have gained a new cachet following the prices-can’t-fall-nationwide housing bust and the financial meltdown it triggered, the most important leading indicator, the yield curve, is saying there will be no recession anytime soon. With the Federal Reserve’s benchmark rate at zero to 0.25 percent and the 10-year Treasury note yielding 3.06 percent, the spread between the two interest rates is among the widest in history. It’s the reverse configuration, an inverted yield curve with short rates above long rates, that augurs recession. The spread — or the “term structure of interest rates,” as it’s known in academic circles — isn’t some mystical talisman with omniscient powers. It derives its prognosticating ability from the simple fact that one rate is artificially pegged by the central bank while the other is determined by the market. Their relationship encapsulates the stance of monetary policy.
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<Click on chart for larger image>
<Click on chart for larger image>
As the chart below shows, the yield curve is a bit over 3%. As the second chart shows, the odds of a recession given this steep of a yield curve are essentially zero. Those interested in the calculations behind this recession model can read the New York Federal Reserve’s Current Issue Volume 12, Number 5.
Although the odds of a recession may be low, as we pointed out in the post above, the economy is still vulnerable to a soft patch of economic data. The longer the soft patch persists, the more seriously the Federal Reserve may be to considering QE3. In other words, Bernanke might not need to see a recession to seriously consider more stimulus. We are not at that point as of now, but it bears watching.