Magazine article Economic Trends

Yield Curve and Predicted GDP Growth, February 2011

Magazine article Economic Trends

Yield Curve and Predicted GDP Growth, February 2011

Article excerpt

Covering January 15, 2011-February 25, 2011

Overview of the Latest Yield Curve Figures

The yield curve twisted steeper over the past month, as long rates once again increased substantially, moving up nearly one quarter of a percentage point, while short rates edged down. The three-month Treasury bill rate moved down to 0.11 percent, below January's 0.15 percent and December's 0.14 percent. The ten-year rate rose to 3.60 percent, up from January's 3.36 percent, which itself was up sharply from December's 3.18 percent. The slope rose by 28 basis points, staying above 300, and remains a full 45 basis points above December's 304.

Projecting forward using past values of the spread and GDP growth suggests that real GDP will grow at about a 1.0 percent rate over the next year, the same numbers as November and December. Although the time horizons do not match exactly, this comes in on the more pessimistic side of other forecasts, although, like them, it does show moderate growth for the year.

Using the yield curve to predict whether or not the economy will be in recession in the future, we estimate that the expected chance of the economy being in a recession next February is at 0.7 percent, slightly down from both January's at 1.2 percent and December's 1.5 percent.

The Yield Curve as a Predictor of Economic Growth

The slope of the yield curve--the difference between the yields on short-and long-term maturity bonds--has achieved some notoriety as a simple forecaster of economic growth. The rule of thumb is that an inverted yield curve (short rates above long rates) indicates a recession in about a year, and yield curve inversions have preceded each of the last seven recessions (as defined by the NBER). One of the recessions predicted by the yield curve was the most recent one. The yield curve inverted in August 2006, a bit more than a year before the current recession started in December 2007. There have been two notable false positives: an inversion in late 1966 and a very flat curve in late 1998.

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More generally, a flat curve indicates weak growth, and conversely, a steep curve indicates strong growth. …

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