Term Spreads Plumb New Depths as Long Yield Drops

A picture is worth a thousand words.

Figure 1: Treasury ten year constant maturity yield, % (blue, left scale), 10yr-3mo spread, % (red, right scale). Source: Federal Reserve via FRED, Treasury, and author’s calculations.

Winning!

Update, 8/13 9am Pacific: Reader Ed Hanson writes:

Menzie ended his post with “Winning!”. I am glad he finally sees this is happening. Why are long term interest rate coming down. There is one obvious answer. The world sees the US as the safest and best place to invest with their bond holdings because of rigorous US economy brought on by the Trump administration with its tax and reduced regulation policy. Perhaps it is this circumstance of inversion that means it is not indicating recession, at least for the US.

But…

So in Ed Hanson’s imagination, the whole developed world is getting safer.

Update, 8/13 11:15am Pacific: Wall Street Journal panel assessment of recession probabilities:

Source: WSJ August survey.

Reader Rick Stryker accuses me of engaging in haruspicy. Apparently, a chunk of Wall Street economists are as well.

 

52 thoughts on “Term Spreads Plumb New Depths as Long Yield Drops

  1. pgl

    The interest rate on 10-year government bonds are declined by 150 basis points since the fall. I guess some might seen this drop as the FED pursuing easy monetary policies so Trump’s whining that the FED has been too tight is all hogwash.

    Or one could see this decline as evidence that the economy is weakening. But Team Trump would be loathe to pursue this more realistic explanation as Trump types want to say this is the best economy ever.

    So time to change the subject and blame Mexicans! MAGA!

    Reply
  2. Moses Herzog

    I’m hoping the direct link to Yahoo Finance will save Menzie’s readers from the annoying Youtube ads. This is Jeffrey Gundlach discussing the curve inversion and also gives probabilities on recession inside of the next year, which actually seem to be higher than Menzie’s and Professor Hamilton’s probabilities, but maybe in the end it’s mostly semantics, and they all agree 2020 is most likely the time that the recession label will be formally applied.
    https://finance.yahoo.com/news/jeffrey-gundlach-increases-us-recession-odds-75-percent-193520909.html

    Reply
    1. pgl

      Checking with BEA:

      https://apps.bea.gov/iTable/iTable.cfm?reqid=19&step=2#reqid=19&step=2&isuri=1&1921=survey

      Table 3.2. Federal Government Current Receipts and Expenditures, line 33 (interest payments)

      Back in 2013 when the 10-year government bond interest rate was low, interest payments were $416.3 billion. In 2018, they were $540.7 billion. Yes, Federal debt rose but the main reason for this increase was the increase in interest rates, which of course are now lower.

      Reply
    2. pgl

      BTW interest expense is based on the stock of debt not on the deficit (which represents the flow change in the stock of debt). Federal debt now is around $22 trillion. But Trump has a plan to eliminate this debt quickly. Default on it!

      Reply
  3. Willie

    I am more and more convinced that the downturn will be on us in 2020. The potential illconsidered reactions make me nervous. With any luck, the essential cowardice and incompetence of the MAGA types will keep them from doing anything too nuts.

    Reply
  4. Willie

    A question I have is related to the ratio of inversion, if there is such a thing. When rates are higher, a larger nominal inversion could be a lower ratio than the current nominal inversion, which is smaller than some earlier inversions.

    Reply
  5. Moses Herzog

    This young lady (a college student) is under the perverted impression she should have the right to vote for her leaders. And also she has the debased and vile idea she should be able to speak her mind without being carted off to Beijing. The unmitigated gall of these well read an educated youngsters. Well, you know what my Dad said to me many times [ in jest ] after he dogged my mother over a period of years to get her degree (because she had a lack of self-esteem in her younger years) and she got her degree and certification as an RN….. “It was the college degree that ruined her”
    https://twitter.com/joshuawongcf/status/1160527258953457665

    Reply
    1. Moses herzog

      I meant to put a question mark in my parenthetical “a college student” in the above comment, based on my semi-assumption that she is, that it’s good bet. I am not 100% certain that she is. So I apologize for that. She may indeed be, or she may be a civil worker, a fast-food worker. In fact I do not know her background. Whatever the case may be, she qualifies as a brave hero in my book.

      I don’t ever want to misrepresent objective facts on this blog, which I have done twice very recently. So…. not wanting to make that a habit.

      Reply
  6. Moses Herzog

    I have 4 links I want to highlight here that are off topic on interest rates/ economy, but are timely in the general news cycle. Two Washington Post stories I view as must reads, one MSNBC video link that is near to “a must watch”, and one twitter link.
    https://www.washingtonpost.com/politics/if-youre-a-good-worker-papers-dont-matter-how-a-trump-construction-crew-has-relied-on-immigrants-without-legal-status/2019/08/09/cf59014a-b3ab-11e9-8e94-71a35969e4d8_story.html#click=https://t.co/HOOwUf2eY5

    https://www.washingtonpost.com/business/2019/08/09/workplace-raids-multiply-trump-administration-charges-few-companies/?noredirect=on

    https://www.youtube.com/watch?v=HTlSLcwoWak

    https://twitter.com/CivilizedDebate/status/1160037370655379456

    Reply
  7. Ed Hanson

    Menzie ended his post with “Winning!”. I am glad he finally sees this is happening. Why are long term interest rate coming down. There is one obvious answer. The world sees the US as the safest and best place to invest with their bond holdings because of rigorous US economy brought on by the Trump administration with its tax and reduced regulation policy. Perhaps it is this circumstance of inversion that means it is not indicating recession, at least for the US.

    Ed

    Reply
      1. pgl

        I start wondering what is happening to the 10-year government bond yield in some SOCIALIST place like Denmark. If Ed’s hypothesis had an ounce of validity (yea – I realize Ed does not do reality), then Denmark would be seeing rising and high interest rates.

        FRED?

        https://fred.stlouisfed.org/series/IRLTLT01DKM156N

        Negative 0.22%?! Imposssible – FAKE NEWS! MAGA!

        Reply
    1. pgl

      Most informed accounts have a very different take. It goes something like this – the demand for investment goods has declined, which has lowered the amount businesses will pay for borrowing (aka the interest rate). Of course when someone with funds to put somewhere is not putting those funds into an every weakening stock market, they choose to hold more bonds.

      So Ed – the real story does not have a thing to do with your safety argument. But do forgive me for putting this into standard mainstream economics and I know you only want to hear what has been pre-approved on Fox and Friends by some MAGA wearing Trump sycophant!

      Reply
    2. pgl

      “by the Trump administration with its tax and reduced regulation policy. Perhaps it is this circumstance of inversion that means it is not indicating recession, at least for the US.”

      I cannot believe that even a Trump sycophant would make such a bozo claim. The idea of reducing regulation and corporate tax rates according to that cast of clowns who pose as Trump’s “economic” team told us that their policies would increase the demand for real assets (aka investment demand) not an increase in the demand for paper assets (bonds).

      Come on Ed – get a grip on what the debate is even about. Yea – I get that investment demand has declined but to misrepresent what the policy debate was about simply because reality has bitten Team Trump in the back side is both STUPID and incredibly dishonest.

      Reply
    3. Dave

      Ed Hanson incoherently writes ” Why are long term interest rate coming down. There is one obvious answer. The world sees the US as the safest and best place to invest with their bond holdings because of rigorous US economy brought on by the Trump administration with its tax and reduced regulation policy.”

      By that logic, the EU and JP are winning big-time with their negative rates.

      Reply
      1. pgl

        Even socialist Denmark has negative interest rates on 10-year government bonds which shreds Ed’s little supply-side “theory”.

        Reply
    4. macroduck

      Rigorous economy? Is that an “exhaustive” economy, an economy that adheres to a strict belief? Not familiar with the concept of a “rigorous economy”.

      Reply
      1. Moses Herzog

        That is the same word that jumped out at me—“rigorous”. What adjective is Ed Hanson going to use on September 1 when donald trump enters “I’m actually a P*ssy” mode?? The most shameful part of this is I had to confess to reading an Ed Hanson comment.

        Reply
    5. The Rage

      Sorry Ed, that doesn’t work. Financial conditions have become suppressed. Have been for awhile. Showing some effect in 2019.

      Reply
    6. baffling

      What about negative rates for bunds in germany ed? Your argument means germany is doing even better than the usa?

      Reply
  8. Rick Stryker

    Menzie’s obsession with looking for signs of recession so that the hated Trump can be defeated reflects a broader trend. When I read posts like this, and the numerous related posts, I’m reminded that progressive economists are practicing a modern form of haruspicy, in which they compulsively examine the entrails of the economy that they are so willing to sacrifice to recession, desperately searching for some downturn prophesy that will be realized before 2020. “Look, the 10-year 3 month spread has declined another 10 basis points this week! Could it be brothers that our hated enemy will be destroyed?”

    On a related note, the Guardian notes that desperate Democratic women are resorting to witchcraft to defeat Trump. You can see that on this blog too. The warlock, using his eviews dark magic, conjures a spell against Trump. Never mind that the econometrics that emerges is completely invalid—this is witchcraft and Trump must be stopped.

    Reply
    1. Menzie Chinn Post author

      Rick Stryker: OK, you do know the post doesn’t include the word “recession”. You can interpret the spread decline any way you want. But truly, no one forces you to read this blog.

      In any case, I’ll put you down on the “Ed Lazear 2008” team.

      Reply
      1. Moses Herzog

        Is Rick Stryker a pseudonym Peter J Wallison uses online??? I honestly can’t decide who is the bigger amoral d***.

        Seriously, I need a confirmation or denial here.

        Reply
        1. Rick Stryker

          I’ll give you a confirmation or denial if you will explain why you attack Barkley so often. My suspicion is that he once gave you the grade you deserved in a class. Why the animosity?

          Reply
          1. Moses Herzog

            @ Politic Rick
            I’ve seen small children light firecrackers and then duck into the bushes before. You don’t impress me. Go back to the fireworks shop and look for a bigger one. It’s obvious you’ve been trying to compensate for small size on this blog for a long time. donald trump talks big to North Korea and his hands and D*** are STILL small, so I can tell you this type talk isn’t going to help your small size either.

      2. baffling

        Dick stryker is still washing his hands clean of the bloodshed he promotes with his gun worship. It is a sick mind like dick who grins and enjoys seeing mass shooters defend their right to murder. By the way dick, did you bail out your idiot son after his walmart stunt the other day? It was a stunning example of the stryker family defense of the 2nd amendment.

        Reply
    2. 2slugbaits

      Rick Stryker Never mind that the econometrics that emerges is completely invalid

      Please explain. In what sense is a plain vanilla probit model “completely invalid” econometrics?

      looking for signs of recession so that the hated Trump can be defeated reflects a broader trend.

      Trump will probably be defeated anyway even if the economy doesn’t slip into recession, so why would I want to wish for a recession that would probably hurt my 401k many times more than it would hurt the typical down-and-out MAGA hat wearing Trump supporter? He won last time by filling an inside straight and has done nothing to expand his support. And, as I recall, prior to Trump having clinched the GOP nomination you were even more disgusted by Trump’s immorality and crass philistinism than I was.

      Reply
      1. Rick Stryker

        2slugs,

        I was thinking of the poisson model, which was an attempt to tie Trump to mass shootings.

        Although non-linear, the poisson model has some of the same problems as OLS. If you omit relevant variables or fail to account for the potential simultaneity bias between mass shootings and the ban dummy, you get biased and inconsistent estimates. Menzie is well aware of this point but is blinded by TDS.

        If there is no recession, Trump will win. Incumbency plus a sub 4% unemployment rate is too much to overcome, especially when you look at who is running on the Dem side. Hence the recession vigil in some quarters.

        Reply
        1. Menzie Chinn Post author

          Rick Stryker: I think any regression where you omit a variable that is correlated with the error, and with a RHS variable, will yield biased and inconsistent coefficient estimates. Every regression is hence vulnerable to this critique since there are infinite variables, and we know every model is “wrong” in practice. We don’t just throw up our hands; if you have a critique along these lines, you first try to provide a candidate list of variables that should be in there, that would remedy the problem even if you don’t have access to the variable. Then you try getting the variable, or some instrumental variable.
          You haven’t even done the first…

          Reply
          1. Rick Stryker

            Menzie,

            As a commenter, it’s not my job to fix your regression. I’m merely pointing out the results you presented don’t establish any statistical relationship between mass shootings and Trump’s presidency. Insisting on valid econometrics is not “throwing up my hands.”

            Besides fixing your model is not as simple as proposing a set of regressors or instruments and then running some new estimates. You’ll need to use a different estimation technique and you won’t be able to use eviews.

          2. Menzie Chinn Post author

            Rick Stryker: You can code a lot of stuff in EViews — so how do you know it can’t be fixed if you don’t even know what the “right” model is.

          3. baffling

            “As a commenter, it’s not my job to fix your regression. ”
            well dick, you present yourself as a statistics expert on this blog-anonymously. as a statistics expert, one would expect a little more out of you than simply saying “that is wrong” followed by silence. that would be a corev reply. if you want to be viewed as an anonymous expert on this blog, i don’t think it is out of line for menzie to expect a bit more in your response. credibility matters for the experts.

    3. The Rage

      Narrow spreads suggest financial conditions of a recession. Thus, you get these posts. Ignorant posting is for the weak minded.

      Reply
    4. pgl

      Rick’s new word – haruspicy!

      https://www.merriam-webster.com/dictionary/haruspicy

      ‘the art or practice of divination’

      Also known as:

      “The study and divination by use of animal entrails, usually the victims of sacrifice.”

      Rick reminds me of your standard Trump sycophant. They run around and pick up the animal entrails left by Trump’s many tweets with what little is left of their reputations being sacrificed by their mindless devotion to Herr Leader!

      Ah Rick – good luck with your voodoo dolls!

      Reply
        1. pgl

          I got this link to work:

          https://www.theguardian.com/lifeandstyle/2019/aug/07/monsters-men-magic-trump-awoke-angry-feminist-witches

          ‘The resurgence of patriarchy was partly embodied by Trump himself, whose fear of women, and embrace of sexual violence as a means of correcting them, was never less than 100% obvious; Trump was not only repeatedly accused of sexual assault, he boasted about“pussy grabbing” on tape. But, partly, this political awakening was just a matter of stripping back our denial to realise how we had always been living: yes, Trump was accused of sexual misconduct, but so were several previous presidents. Yes, supreme court justice Kavanaugh was confirmed over reports of sexual assault, but the same thing had happened 30 years ago with Clarence Thomas. Yes, Roe v Wade was going to fall, but in most parts of the US, abortion access had been stripped so far down that it might as well be illegal. Patriarchy had been the truth all along. It was progress that was the phantom.’

          No wonder Rick garbled the link!

          Reply
        1. pgl

          ‘The resurgence of patriarchy was partly embodied by Trump himself, whose fear of women, and embrace of sexual violence as a means of correcting them, was never less than 100% obvious; Trump was not only repeatedly accused of sexual assault, he boasted about“pussy grabbing” on tape. But, partly, this political awakening was just a matter of stripping back our denial to realise how we had always been living: yes, Trump was accused of sexual misconduct, but so were several previous presidents. Yes, supreme court justice Kavanaugh was confirmed over reports of sexual assault, but the same thing had happened 30 years ago with Clarence Thomas. Yes, Roe v Wade was going to fall, but in most parts of the US, abortion access had been stripped so far down that it might as well be illegal. Patriarchy had been the truth all along. It was progress that was the phantom.’

          Reply
    5. baffling

      “Menzie’s obsession with looking for signs of recession so that the hated Trump can be defeated reflects a broader trend.”
      its the slowing growth, low interest rates, tariff taxes on the middle classes, and tax cuts for the rich which created trillion dollar deficits, that have people worried about a possible recession rick.

      Reply
  9. pgl

    “So in Ed Hanson’s imagination, the whole developed world is getting safer.”

    So China is safer? What about those Hong Kong demonstrations. Of course the reason for the demonstrations is the People Republic’s decision to reduce the freedoms of old Hong Kong. In Ed’s world, one would think this would lead to skyrocketing interest rates. Of course Ed’s “thesis” is not based on any economic theory known to man. Yes – Ed live in his own little world!

    Reply
  10. Rick Stryker

    Menzie,

    I didn’t say it couldn’t be fixed. I just said endogeneity in poisson regressions isn’t simple to fix. It’s not like you come up with some new data and just click a few buttons in eviews.

    One possibility is to be willing to maker some strong assumptions in maximum likelihood. If you write a latent variable error term in the conditional mean and assume a parametric form for the dummies that also depends on the latent variable, then as long as you are willing to make an assumption about the distribution of the latent variable, you can integrate out the latent variable from the likelihood function. But because there won’t be a closed form solution, you’ll need to do simulated maximum likelihood. I doubt you can do that in eviews.

    The other method, which you may be able to do in eviews, is to use Generalized Method of Moments (GMM). If you assume again that the latent variable is in the conditional mean, then you can write the moment conditions as E(y/exp(BX) -1|z) = 0 for suitable instruments z. That will handle the endogeneity as well.

    By the way, I quickly repeated your regression in R and got similar estimates but stronger significance. Here are the estimates using robust standard errors with 95% confidence levels (LL-UL). As you can see, the intercept is different from your results and the Trump dummy is strongly significant whereas I think you got significance at the 10% level. But otherwise the parameter estimates are pretty similar. Not sure why we don’t get the same results though.

    Estimate Robust SE Pr(>|z|) LL UL
    (Intercept) -2.243072151 0.2787051903 8.402786e-16 -2.78933432 -1.696809978
    Trump 0.716053696 0.2460695066 3.614690e-03 0.23375746 1.198349929
    Ban -0.584503377 0.2897823209 4.369104e-02 -1.15247673 -0.016530028
    Time 0.003554086 0.0009003707 7.901806e-05 0.00178936 0.005318813

    Reply
  11. Rick Stryker

    From Baffled:

    As a commenter, it’s not my job to fix your regression. ”
    well dick, you present yourself as a statistics expert on this blog-anonymously. as a statistics expert, one would expect a little more out of you than simply saying “that is wrong” followed by silence. that would be a corev reply. if you want to be viewed as an anonymous expert on this blog, i don’t think it is out of line for menzie to expect a bit more in your response. credibility matters for the experts.

    I didn’t just say it was wrong. I explained why. Obviously you dont what consistency of an estimate means, or you wouldn’t have claimed I was silent.

    You should also note that I suggested some fixes in my comment above. I also reestimated Menzies model.

    Reply
    1. baffling

      “I didn’t just say it was wrong. I explained why.”
      after you were scolded for lacking those details, dick stryker.

      Reply

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