Much has been made about the recent action in the bond market. Yields have fallen to unheard of levels. The inflationistas and curve steepener traders are bewildered. It’s clear that bond investors are expecting very low inflation in the coming decade, but some fear it is portending far worse. Famed bond guru Bill Gross is worried about the action in the bond markets – so much so that he says the current environment is pricing in a depression. The Cleveland Fed recently released a note on the predictive nature of the yield curve. Their conclusions – a slowdown is on the horizon, but no double dip will follow:
“Since last month, the three-month rate has dropped to 0.09 per cent (for the week ending June 18) from May’s 0.17, and this also comes in below April’s 0.16 per cent. The 10-year rate dropped to 3.26 per cent from May’s 3.33 per cent, also down from April’s 3.85 per cent. The slope increased a mere 1 basis point to 317 basis points, up from May’s 316 basis points, but still below April’s 369 basis points.”
“Projecting forward using past values of the spread and GDP growth suggests that real GDP will grow at about a 1.00 per cent rate over the next year, just up from May’s prediction of 0.98 per cent. 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.”
“the expected chance of the economy being in a recession next June rises to 12.4 per cent, up from May’s 9.9 per cent and April’s 7.1 per cent, despite the slight rise in the spread. Recent data has shifted the predicted value upward, though it still remains low.”
So, very slow growth, but no double dip. Of course, this is all assuming the recession actually ended which I think is absolute nonsense. This is and remains a consumer driven balance sheet recession. The reason policymakers have failed to solve the problems on Main Street is because they have failed to properly diagnose this as a problem rooted on Main Street.
As for the predictive nature of the yield – I think we have to seriously wonder if this time isn’t different. Monetary policy has proven to be an unreliable response in the current recession. Why? Because this truly is a different kind of recession. This isn’t your typical cyclical slowdown. This is a secular systemic collapse.
Ben’s response was a sickening form of trickle down whereby he saved the banks and assumed that he could save the system from the top down. It’s the classic monetarist gaffe of trying to sell more apples by stocking the shelves with even more apples. Of course, banks are never reserve constrained which is why, in large part, saving the banks was a failed strategy from the very beginning.
For now, I am more inclined to agree with the Paul Krugman’s of the world – that the risks lie to the downside. The only thing the yield curve is predicting for now is that deflation is retaking its grip on global markets. If we let it sink its teeth into us we risk not only a double dip, but perhaps something worse. Unfortunately, policymakers and Central Bankers are uncomfortable playing the role of risk manager. They prefer the scientific method which has failed them time and time again. This it appears, is not different this time.