(7/1 – with update including credit spread augmented specification.) Estimated probit over 1986M01-2018M06 period (assuming no recession as of 2019M06):
Prob(recessiont+12=1) = -0.323 – 0.869Spreadt
McFadden R2 0.295, observations = 390, bold denotes significance at 5% msl. Spread in percentage points.
Current spread and current recession dates in Figure 1 (green denotes out-of-sample data).
Figure 1: Ten year minus three month Treasury spread, % (constant maturity) (dark blue). NBER defined recession dates shaded gray. Source: Federal Reserve Board via FRED, NBER, and author’s calculations.
Using the data to forecast out-of-sample yield implied probability of recession equal to 42% in 2020M06.
Figure 2: Probability of recession for indicated month. NBER defined recession dates shaded gray. Light green denotes out-of-sample. Source: NBER, author’s calculations.
Jim pointed out a month ago that the term premium is likely much smaller currently than in past episodes, so that the historical correlation which I am relying on may be misleading. At the same time, I’m not relying on any credit spreads, which of late have been rising.
For a comparison of different spread model estimates — going through May only — see this post. (A good recent survey and evaluation of competing spreada models is provided by David Miller in FEDS Notes.)
Probabilities, augmented with credit spread:
Figure 3: Probability of recession for indicated month, using 10yr-3mo spread (blue), and 10yr-3mo spread augmented with BAA-10yr spread (red). NBER defined recession dates shaded gray. Light green denotes out-of-sample. Source: NBER, author’s calculations.
Update, 7/2: For more, on growth rates, see IMF.b