Monetary Policy, Taxation, and International Investment Strategy

By Victor A. Canto; Arthur B. Laffer | Go to book overview

6
The Yield Curve: The Long and Short of It

VICTOR A. CANTO AND ARTHUR B. LAFFER

Of late, analysts have busied themselves discussing the significance of an inverted yield curve. For the first time since 1982, the yield curve is literally on the verge of inverting. As it is told in the ancient book, when the yield curve inverts, a downturn follows.

To determine whether any systematic patterns can be uncovered and, specifically, whether there is any validity to the claim that inverted yield curves are precursors of recessions, we have chosen to examine the historical record of the United States during this century. For the purposes of this paper, the yield curve is said to be inverted when the short end of the yield curve (the three-month yield) exceeds the long end yields on bonds of 20 or 30 years. Since 1920, the short end of the yield curve has exceeded the long end of the curve in 10 instances (Figure 6.1). The length of the inversions ranged from one month to 24 months, with an average duration of 14.5 months (Table 6.1).


THE FRAMEWORK

Nominal interest rates on government securities reflect market participants' joint forecasts of inflation and real interest rates over the maturity length of the security in question. In turn, the slope of the yield curve reflects the market's forecasts of joint changes in inflation rates and real interest rate expectations.

An inversion in the yield curve indicates that the market believes nominal yields in the future will decline relative to the present. Such a change in expecta-

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Monetary Policy, Taxation, and International Investment Strategy
Table of contents

Table of contents

  • Title Page iii
  • Contents v
  • Figures ix
  • Tables xiii
  • Introduction xix
  • Note xlii
  • PART ONE MONETARY POLICY 1
  • 1: Capacity Utilization and Inflation 3
  • 2: World Money and U.S. Inflation 13
  • 3: Alternative Monetary Theories of Inflation 25
  • 5: The Quality of Inflation Indicators 80
  • 6: The Yield Curve 87
  • PART TWO - FISCAL POLICY 93
  • 7 - Bush's Economic Agenda within a Supply-Side Framework 111
  • 8: Tax Amnesty: The Missing Link 113
  • 9: Fifteen Percent is Fine, but Indexing is Divine 123
  • Notes 144
  • 10: Stylized Facts and Fallacies of Capital Gains Tax Rate Reductions and Indexa tion 147
  • 11: Friday the 13th 157
  • 12: Debt and Taxes Are the Only Certainty 165
  • Note 173
  • 13: Borrowed Prosperity 175
  • Notes 187
  • 14: The Savings Monster 189
  • 15: Are We Climbing the Wall of Resistance toward National Health Insurance? 209
  • PART THREE INTERNATIONAL ECONOMIC ISSUES 219
  • 16: Tax Rate Reductions and Foreign Exchange Rates 221
  • Notes 230
  • 17: The Trade Balance 233
  • 18: National Paedomorphosis 241
  • PART FOUR PORTFOLIO STRATEGIES 255
  • 19: Part I: The Legend 257
  • Notes 267
  • 20: Part II 269
  • 21: The Small-Cap and State Competitive Environment 283
  • 22: International Stock Returns and Real Exchange Rates 301
  • Notes 320
  • Index 321
  • About the Contributors 327
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