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Treasury Market Flashing A Warning For U.S. Economy

James Picerno profile picture
James Picerno

Recession risk remains low for US, based on the latest economic data overall, but the Treasury market is pricing in a higher probability that growth will slow and perhaps lead to a downturn at some point in 2019. It's still unlikely that output will contract in the near term, although a combination of political and economic risk factors has unleashed a repricing of the macro outlook for the year ahead.

The widely followed 10-year less 2-year Treasury yield spread has fallen sharply in recent days, tumbling to 11 basis points on Tuesday (Dec. 4). Economists warn that a dip below zero for the spread - an inverted curve - would signal a high probability of a US recession within 12 months.

No one should dismiss this risk, yet some analysts point out that the spread for the 10-year and 3-month T-bill remains moderately higher at around 50 basis points. By some accounts, this spread is a more reliable measure of recession risk compared with the difference on the 10- and 2-year rates.

In any case, both spreads are still positive and so it's premature to assume that a new recession is fate. Even if one or both of these spreads goes negative there's still room for debate about the implications for the business cycle. Although inverted yield curves have been reliable predictors of recessions in decades past, there's a school of thought that argues that it may be different this time. The reasoning is that the Federal Reserve's extraordinary monetary policy over the past decade have distorted interest rates and so the historical record for this indicator may be less reliable these days.

Perhaps, but no one really knows the degree of relevancy (or irrelevancy) for the yield curve as a recession predictor. Surely it deserves a spot on the short list of business-cycle

This article was written by

James Picerno profile picture
James Picerno is a financial journalist who has been writing about finance and investment theory for more than twenty years. He writes for trade magazines read by financial professionals and financial advisers. Over the years, he’s written for the Wall Street Journal, Barron’s, Bloomberg Markets, Mutual Funds, Modern Maturity, Investment Advisor, Reuters, and his popular finance blog, The CapitalSpectator. Visit: The Capital Spectator (www.capitalspectator.com)

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