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10 Feb 2016
Yield curve: Still a good recession predictor? - SocGen
Research Team at Societe Generale, suggests that given the yield curve’s many distortions, a question arises whether it is still a useful recession indicator.
Key Quotes
“Although we see some value in the yield curve’s current message, we agree that its inability to invert under current circumstances makes it an unreliable recession indicator. All past inversions were caused by significant tightening of monetary policy. This is clearly not the case today.
The lack of late-cycle pressures – be it wage pressures or steep rate hikes – suggest that the risk of a home-grown recession is extremely low. In this context, an external shock is more likely to induce a mid-cycle slowdown rather than an outright recession.
However, if a recession was forthcoming, the curve’s inability to invert means that it would give a false signal under this scenario. To err on the side of caution, we have removed the yield curve from our recession probability model. This causes the current estimate to jump from 2% to 20%. Our subjective assessment of the current recession risk is in the upper half of that range.”
Key Quotes
“Although we see some value in the yield curve’s current message, we agree that its inability to invert under current circumstances makes it an unreliable recession indicator. All past inversions were caused by significant tightening of monetary policy. This is clearly not the case today.
The lack of late-cycle pressures – be it wage pressures or steep rate hikes – suggest that the risk of a home-grown recession is extremely low. In this context, an external shock is more likely to induce a mid-cycle slowdown rather than an outright recession.
However, if a recession was forthcoming, the curve’s inability to invert means that it would give a false signal under this scenario. To err on the side of caution, we have removed the yield curve from our recession probability model. This causes the current estimate to jump from 2% to 20%. Our subjective assessment of the current recession risk is in the upper half of that range.”