Upward Curve of Treasury Yield Could Signal Recession's End

Mark Perry had a nice post yesterday with an update of the Fed's model for predicting recessions and recoveries. The upward slope of the Treasury yield curve now says that the probability of recession this year is rapidly approaching zero: "the Fed's model shows a recession probability of only about 1% on average through the next 12 months, and below 1% by the end of the year."

This prompted me to update my own model, which also uses the slope of the yield curve, but which adds in the real Fed funds rate, since the latter is a good measure of just how tight or loose the Fed actually is. As this chart shows (click to enlarge), the yield curve is always negatively sloped going into recessions and positively sloped coming out of recessions. That's because every recession in modern times has been preceded by a significant tightening of monetary policy, and a return to easy money has marked the end of every recession. So today it is clear that we have the essential monetary ingredients for a recovery. Indeed, given the rise in commodity prices and other signs of improvement that I've been noting for awhile, it seems pretty likely that the economy will be on the mend before mid-year, as I predicted at the end of last year.

Of course, when recessions end it is never immediately obvious, and it typically takes many months or even a year or more before the numbers confirm that the recession has ended. I recall how Bush Sr. lost his reelection bid in 1992 in part because of the widespread belief that the economy was hopelessly mired in recession; by the end of 1993, however, revised numbers came out which showed that the economy had actually enjoyed a decent recovery in 1992. Similarly, during the summer and fall of 2003 the mantra was that we were in a "jobless recovery," monetary policy was "pushing on a string," and deflation threatened the global economy. We later learned that the economy took off like a rocket starting in July of that year.

Comments

[The Little ...:]

The recession is not over. All the wishful thinking in the world won't change that fact. 2009 is a recession year. One statistic such as the wiggle of the treasury yield curve, by itself, is unconvincing prove. How about the sharp and continous rise in unemployment and the continued failure of the banks to lend. It is true we won't know the bottom when it comes. What worries me is that when the bottom is reached, the economy might just stay there, meaning no rapid recovery. This recession is different from others. The latter often were caused by swelling inventories accompanied by high interest rates. When inventories and interest rates dropped sufficiently, recovery followed . It will not be so easy this time.

Apr 08 08:38 PM

[User 143167:]

According to your logic, the recession was ended even before it began in Q4 2007.

Apr 08 10:35 PM

[the_feds_co...:]

What a joke no wonder American students cant find jobs with professors like this teaching them utter crapola!

Apr 09 01:05 AM

[the_feds_co...:]

How do u know the yield curve isn't rising because it has too! Maybe they have to raise the yields on bonds to attract buyers cuz the auctions r going badly! i would say this is farrrr more likely! i also have to say ur conclusion is disingenuous and unethical.
R u on the gov't payroll? a consultant?

Apr 09 02:17 AM

[Steven Hansen:]

"Similarly, during the summer and fall of 2003 the mantra was that we were in a "jobless recovery," monetary policy was "pushing on a string," and deflation threatened the global economy. We later learned that the economy took off like a rocket starting in July of that year."

we actually were in a jobless recovery - just look at employment growth. we papered over the economic faults (yes, we had a recovery on paper) - but beginning in 2008 we just gave it all back including a huge deflationary hit on assets.

with the level of Fed intervention into treasuries today, i am concerned that you could draw any reliable conclusion comparing treasury spreads to recessionary periods.

Apr 09 03:33 AM

[CoverIsBetter:]

The Baltic Dry Index continues to drop. This and Oil must show some sign of life, or there is still anemic demand. - IMHO

I don't know what commodities you are getting excited about. I watch this one :
www.bloomberg.com/apps...

Apr 09 09:38 AM

[Moon Kil Woong:]

We will have a monetarist recovery in financials long before the upsurge hits the public and middle class. While wealthy people are happy at getting off stock market lows salaries and income will still be in decline this quarter and probably next.

Unless a majority profit comes off capital gains keep waiting and hoping your job doesn't somehow evaporate. After that, start thinking about how to fight the sugar high of inflation from the Fed and Treasury gorging on a 4,500 calorie dessert after letting their financial cohorts eat the working middle class like a fine steak meal.

There has never been such a huge transfer of real wealth from the middle class to financial corporations as has occurred this recession. You may say, well they lost all their equity, but I mean real wealth. Banks have more cash and equity and the rest of Americans have a lot less of it. They have more real estate than ever save maybe the Great Depression perhaps to their chagrin since they prefer more public assets instead.

If this is a real recovery. It is the first real recovery that comes on the heels on no increase in jobs, wages, or productivity. It in essence is a financially engineered one which highlights just what was wrong in the first place going into the recession. Our capitalist system is starting not to reflect reality more than it reflects accounting du jour, and stimulus soup. There is no more meat, no more potatoes, and forget about vegetables.

The yield curve is changing due to frictionless money. Money being produced from nothing, not entering the economy, and sitting in big insolvent banks to cover derivatives losses they incurred years ago. We all know the inflationary pressure is building behind the bank dam. We also know the private side of the pie is shrinking whereas the bank balance sheet along with the fed balance sheet is bulging.

What are we to do. The Fed and Treasury says don't do anything. But it's easy to say when you are making trillions for yourself out of thin air and handing it to your friends every quarter. Ohh so very easy. Like Santa Claus without the need to climb through a billion cold dark chimneys. No need for that. You only might need to do that if you were going to try to give it to the public.

Apr 09 10:28 AM

[Still Renting:]

So I check out my SA alerts this morning and see a slew of positive articles and I'm thinking, did I just pass into a parallel universe?

Then I notice they are all by the same guy.

Apr 09 01:19 PM