Powell has already decided to accommodate the markets, implicitly announcing a desire to slow down in raising rates, but this was not enough. At least, such a conclusion is taking shape in the US fixed-income market, which seems to have reckoned the tone of Powell speech insufficiently friendly.
The spread between the yields of two-year and 10-year US Treasury bonds continued to decline this week, reaching a minimum in 10 years. This indicator is considered by some Fed officials as one leading data on the demand for investments in the economy, while others detract from its importance. The debate around the spread between yields spawned rather contradictory comments from the Fed representatives. Some of them tried to draw market attention to it, others said that it was one of the “many indicators” that the Fed was following.
The lenders in the economy typically request a higher yield for long-term investments than the short-term. Firstly, it is believed that with the growth of the investment horizon, uncertainty also grows, which forms its risk premium, and secondly, expectations of higher returns in the future make short-term investments more attractive. If the short-term yield grows strongly, it can mean concern about the near future or for example that the Central Bank raises rates too fast.
Inverted yield curve historically often preceded recessions in connection with which, it is considered a simple and clear indicator of the coming recession or the end of the expansion phase in the economic cycle.
It is curious that the inversion of the yield curve has already occurred in some “places” of the curve: for example, between the yield of 5-year and 3-year bonds. The spread between them fell to -0.01% on Monday, which happened for the first time since 2007.
In mid-October, the spread went up, which can be attributed to a correction in the US stock market and expectations that the Fed will slow down the pace of hikes, what happened, but with a delay. But even after Powell’s comments last week, the spread continued to decline, indicating a “demand” for the market to move the rate even more carefully.
The president of the Federal Reserve Bank of Dallas, Robert Kaplan, said at a meeting with entrepreneurs in Texas that the trend in the structure of interest rates convinces him of the need for patience in the matter of tightening policy.
In addition to the alarming trend in the time structure of interest rates, incoming economic data form a contradictory impression about the economy. PMI in the US manufacturing sector indicated an increase in output in November, simultaneously with a slowdown in prices paid. The slowdown in the US construction sector also suggests that the bright prospects for growth in the US should be treated very carefully.
The pause in the trade war between the United States and China was supposed to support growth expectations, but investors are very concerned about the possible mistakes in the Fed’s policy.