The Inverting Yield Curve Is About More Than Recession This Time

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(Bloomberg) — A key slice of the U.S. yield curve inverted on Thursday for the first time since October, reviving memories of growth fears that plagued investors last year and signaling doubts that the Federal Reserve will succeed in reviving inflation.

The gap between the yield on three-month and 10-year Treasuries at one point slipped to as low as minus 2 basis points on Thursday. The spread — seen by some as a warning signal because it has inverted before each of the past seven U.S. recessions — last reached those levels as economic conditions deteriorated at the height of the trade war.

With the coronavirus outbreak threatening to disrupt the Chinese economy, concerns about the business cycle are undoubtedly a factor. But more important still are emerging doubts over the ability and commitment of policy makers to shore up growth and spur inflation.

The inversion has deepened since Chairman Jerome Powell and colleagues kept rates unchanged this week and signaled they would pull out all the stops to combat a global disinflationary downdraft.

Following his press conference Wednesday, fed funds futures showed increased conviction by traders that a cut is coming this year, although they continue to price in just one quarter-point reduction. Meanwhile, inflation-linked debt markets are expressing doubts that price pressures will increase, with so-called breakeven rates slipping in the wake of Powell’s comments.

“The bond market is basically telling the Fed that it hasn’t done enough and will be called back to do more and that the longer they wait the more they will have to do,” said Michael Darda, market strategist at MKM Partners. “If the bond market thought Powell’s comments on wanting higher inflation were credible in his press conference, you wouldn’t have seen break-even inflation rates falling as they did.”

A measure of core U.S. inflation released Thursday showed price pressures slowed to an annualized 1.3% in the fourth quarter from 2.1%, a weaker figure than analysts had expected.

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