OpinionWhy the US is not slipping into a recession, despite the inverted Treasury yield curve

While an inverted yield curve could be taken as a sign that a recession is in the offing, US manufacturing activity and consumer sentiment remain robust. The inversion in US yields is more a by-product of excessively low yields in Europe and Japan

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Harley-Davidson motorcycle engines are assembled at the company’s plant in Menomonee Falls, Wisconsin, in June 2018. US manufacturing activity continues to expand. Photo: AFP

Published: 8:00pm, 28 Mar 2019Updated: 10:32pm, 28 Mar 2019

James Carville, a prominent American political consultant who played a key role in the successful presidential campaign of Bill Clinton in 1992, famously said: “I used to think that if there was reincarnation, I wanted to come back as the president or the pope or a .400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody.”

Over the past week or so, signals from bond markets have proved quite unsettling. Following the US Federal Reserve’s decision on March 20 to refrain from raising interest rates for the rest of this year and end the process of unwinding its balance sheet as soon as September, yields on benchmark government bonds have fallen steeply as investors take a bleaker view of the prospects for global growth, particularly in America.

The pessimism has been most evident in the US Treasury yield curve.

Last Friday, a closely watched measure of the curve – the difference between three-month and 10-year yields – inverted for the first time since 2007. Investors are sensitive to curve inversions, when yields on short-dated debt rise above those on longer-dated bonds, because historically they have proved to be a strong predictor of recessions. Other corners of the bond market are also signalling a sharper slowdown. The yield on 10-year German bonds turned negative last Friday for the first time since 2016.

The gloom in bond markets has put other asset classes under strain, particularly equities and emerging markets which have benefited significantly from this year’s dovish U-turn in US monetary policy. The benchmark S&P 500 index is down nearly 2 per cent since last Thursday while the MSCI Emerging Markets Index, the main gauge of stocks in developing economies, has lost just over 2 per cent.