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About that Inverted Yield Curve Idea

L: If you've been around Jim for any time at all, you know all about the signal for an upcoming recession: an inverted Treasury yield curve lasting four months or longer will precede a recession by as much as 19 months (that was the one before the 2008 recession). So now, there's all kind of talk in the news about the yield curve inverting as the Federal Open Market Committee continues to raise the target for the Federal Funds rate a quarter point at a time while the 10-year Treasury yield declines toward that number.

There was a recent excellent article by Greg Ip in the January 9 edition of The Wall Street Journal that asks a very simple question. Does an inverted yield curve CAUSE a recession or is it merely associated with one?

J: It is causal (L: so there!) and in the 17 times we've seen the inversion from the 90-day Treasury bill (heavily influenced by the Fed Funds rate) to the 10-year Treasury note, a recession has followed. There have been four recessions since 1901 that were not foretold by a Treasury yield curve inversion and each of those had a very special set of circumstances that accounted for that missing signal. The inverted Treasury yield curve that lasts 4 months or longer has never given a false signal.

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