Thursday, October 20, 2011
The slope of the yield curve has been a good indicator of the headwinds facing the economy: a flat or inverted curve is a sign of tight monetary policy and a relative shortage of liquidity, while a positively sloped curve is a sign of easy monetary policy and an abundance of liquidity. This chart looks at the slope between 2- and 5-yr Treasuries, and there is no indication here that the economy is facing any serious monetary headwinds. The Fed may be up against the zero boundary for short-term rates, but the market expects that the Fed will be raising rates over the next several years.
This chart looks at the spread between 1- and 10-yr Treasuries, and the message is the same: the yield curve is plenty steep and non-threatening. It also shows the real Federal funds rate (using the PCE Core deflator), which is another way of measuring how easy or how tight monetary policy happens to be. By this measure, monetary policy has rarely been this easy. Every recession in the past 50 years has been preceded by a marked flattening of the curve, and all business cycle recoveries have been accompanied by a relatively steep yield curve and relatively easy monetary policy. Conclusion: key indicators of monetary policy show absolutely no threat to continued economic growth.
Posted by Scott Grannis at 1:55 PM