The Federal Reserve appears ready to cut interest rates soon, with fears of a recession one reason it wants to lower borrowing costs. In fact, such fears are not unfounded and are supported by the models used by the Fed itself.
The model was written in 2006. In a paper titled "The Yield Curve and Forecasting Recessions," the Fed calculated the probability of a recession in the next 12 months using only three variables: the 10-year Treasury yield, the 3-month Treasury yield and the current federal funds rate. The model now shows a 70% chance of a recession.
However, it should be noted that since the yield curve first inverted in October 2022, this recession indicator has flashed above 70% twice, and the United States has not fallen into a recession. The US political blog network joked that the indicator is forming a triple top.
Jonathan Wright, the author of the 2006 paper and now an economics professor at Johns Hopkins University, acknowledged that the yield curve can produce false positives, as it did in 2019, before the coronavirus-induced recession.
“The Fed is still intentionally pursuing a restrictive monetary policy to reduce inflation, which is exactly the economic reason why the yield curve is predictive of recessions,” he said in an email to MarketWatch.
Lighth said the 70 percent probability was "too exaggerated," but he also believed there was a significant risk that tight monetary policy could tip the economy into recession.
“There is a risk of a slowdown in the economy, there is a risk of a recession, but not right away, but in the next few quarters,” Light said. “With inflation roughly on target, that will allow the Fed to ease off the brakes a little bit.”
The article is forwarded from: Jinshi Data