I pour the morning cup of mud, schlep out to the stoop to get my paper, and open my WSJ to learn that the yield curve is awfully flat (i.e., the difference between the interest rates of bonds of different maturities is low). In fact, the yield on the 10-yr–1.367% yesterday–is the lowest on record. And the difference between the 10 and 2-yr Treasury yields, at about 0.8, is the same as it was in November, 2007.
Not good, and very much worth noticing. There are those who will tell you the yield curve is a revealing recession indicator and that a narrow 10/2 year spread is flashing red. But now isn’t late 2007. Most importantly, of course, the housing bubble was imploding back then, whacking bank portfolios, wiping out trillions in wealth, and generating both a credit freeze and a demand-killing negative wealth effect. Also, the Fed funds rate has been at or near zero since around 2009, so that’s also very much in the mix here, holding down Treas yields.
One must be steely-eyed in these circs and avoid unnecessary bedwetting. On the negative side, along with the flat yield curve, we have:
–the strong dollar: it hurts our trade competitiveness and puts downward pressure on inflation and thus props up the real interest rate;
–volatile markets/uncertainty: surely a bigger problem for the UK than us/US, but watch our equity markets for wealth effects; still, credit flows here seem largely untouched;
–possible weakening job growth: that’s a big one of which I’ll have more to say later this week.
On the plus side:
–low unemployment, a bit of wage growth, and low inflation, while a problem re propping up real interest rates, is helping paychecks go further;
–growth: kind of the bottom line here, and while it’s been bumpy, we’re basically posting growth rates of around 2%, yr/yr, which ain’t great (and reflects a nasty downshift in productivity growth) but is actually the envy of most other advanced economies right now.
Two other things. I suspect the probability of a near-term recession remains relatively low here, well below 50%, though who knows? But what I’m absolutely certain of, as I wrote here, is that we’re not ready for it, either re monetary or fiscal responses.
Finally, I couldn’t be more flummoxed by this next point: these historically low Treasury rates amidst sluggish growth and an engine of job growth that could be downshifting are absolutely SCREAMING for policy makers to borrow and invest in public infrastructure. That would help on many levels now, from labor demand to productivity.
I won’t make free lunch arguments, but given these yields and the potential benefits of the investments, this is lunch with a very large discount. I realize I’m screaming into the gridlocked, political void, but scream I will. And you should too, IMHO.