Term Spread Watch – Is This Time Different?

A reporter for Marketplace (hear piece at 10 minutes in) asked me today whether this time was different, especially in light of all the positive coincident indicators (Q3 GDPNow has been at 5.6% for a couple weeks; Fed staff has upgraded q4/q4 growth, Goldman Sachs pegs recession probability at 15%). I was (I hope properly) circumspect.

First, as I noted a month ago, the 50% threshold using standard probit models indicated a recession in 2023Q4 – which we’re not in yet, let alone getting data on.

Second, the two term spreads I follow — the 3m10s and 2s10s (10yr-3mo, 10yr-2yr spreads, respectively) have a pretty good track record. Only one false positive since 1960 for the 3m10s and no false negatives. Since 1976M06, only one missed recession (the 2020) for the 2s10s.

Figure 1: 10yr-3mo Treasury spread (bold blue), 10yr-2yr (red), both in %. NBER defined peak-to-trough recession dates shaded gray. Source: Treasury via FRED, NBER and author’s calculations.

While inversion precede recessions, the lag time between inversion and recession is quite variable.

The main argument I hear for why 2023 might be different is that the term premium has been distorted by quantitative easing and tightening. One way to address this concern is by adjusting the 10yr rate by subtracting off (an estimated) term premium.

Figure 2: 10yr-3mo Treasury spread (bold blue), 10yr-3mo adjusted by D’Amico-Kim-Wei/Board real/inflation risk premium (tan), adjusted by Adrian-Crump-Moench NY Fed term premium (green), all in %. NBER defined peak-to-trough recession dates shaded gray. Source: Treasury via FRED, Fed Board via FRED, NY Fed, NBER and author’s calculations.

Note that the implied term premia differ, so it’s unclear whether adjusting for premia tells a significantly different story regarding inversion predictive power. The DKW adjusted spread predicts recessions for 3 of the last 4 recessions (it misses the 2020 recession), but would’ve also had some false positives. The ACM adjusted spread spends too much time in negative territory in the pre-2000 period to be very useful.

Of course, these spreads all show up as statistically significant in probit regressions — but with significantly less pseudo-R2 than an unadjusted spread (about 0.18 vs. 0.28).

In any case Kim and Hamilton (2002) note that term premia have predictive power for future economic activity (separate from recessions), so it is not clear that one should exclude them from the regressions.

So, I’m not sure why this time should be different. That being said, the term spread-recession link is a historical correlation, and indeed the past 7 years have been remarkable.




30 thoughts on “Term Spread Watch – Is This Time Different?

  1. Moses Herzog

    I don’t see a recession for calendar year 2023. I have no models or regressions to present to buttress my conviction. Sorry for that.

  2. Macroduck

    Repeating myself, but on topic –


    “We show that, from the model’s perspective, short-run r* has increased notably over the past year, to some extent outpacing the large increase in the policy rate. One implication of these findings is that the drag on the economy from recent monetary policy tightening may have been limited, rationalizing why economic conditions have remained relatively buoyant so far despite the elevated level of interest rates.”

    Not the best writing I’ve seen from the Fed, but a clear-cut (or maybe circular?) explanation for the strength of the economy after 6 quarters of yield curve inversion.

    1. Moses Herzog

      As is sometimes the case with this often times challenged and easily-burdened brain of mine, I cannot believe it has been 6 quarters of yield curve inversion~~somewhere “along the line” I lost track of the time “duration” (see what I did there??). One word: WOW

  3. Moses Herzog

    Folks, it is not hyperbole or exaggeration to call this letter a “classic” in American letters. As you read it, remember that the better passages are towards the last

    My favorite part from Fani Willis Letter, of many gems she had:
    “Your questioning of the inclusion of overt and predicate acts by the defendants in the indictment’s racketeering count shows a total ignorance of Georgia’s racketeering statute and the basics of criminal conspiracy law. Allow me the Opportunity to provide a brief tutorial on criminal conspiracy law, Chairman Jordan. As I explained to the public when announcing the indictment, the overt and predicate acts are included because the grand jury found probable cause that those acts were committed to advance the objectives of a criminal conspiracy to overturn the result of Georgia’s 2020 Presidential Election. For a more thorough understanding of Georgia’s RICO statute, its application and similar laws in other states, I encourage you to read “RICO State-by-State.” As a non-member of the bar, you can purchase a copy for two hundred forty-nine dollars [$249]. ”

    This lady, is AWESOME.

    1. joseph

      “For your information, I am attaching ten examples of threats this office has received. See Exhibits F through O.”

      Ha, ha. FO, Jordan.

      That pretty well sums up the whole letter.

      1. Moses Herzog

        @ Joseph
        I’d say she let the bastard off easy, not mentioning Jordan’s close pedophile friends in college wrestling he shielded from law enforcement.

        But, yeah, I would say you nailed the general gist of the letter. Kind of like the subtext when some older lady says “Well, God bless your heart” right after some personal clusterF— has occurred.

        I have had that occur to me before (hard to believe, eh??). It is savagely vicious when certain older women say it, that you respect. You end up wishing they had unleashed five F-bombs on you.

      2. Ivan

        She should have added more samples so it could have been F*** Y

        She is brilliant and I would love to have her testify in congress. After this letter I doubt the GOP would dare to have her in front of Jordan.

        1. Moses herzog

          The permutations for probable pandemonium to playout are perpetual, plus, potentially preposterous. People will pronounce Jordan pathetic.

          Please promote this powwow.

    2. pgl

      MAGA morons are no match for Fani Willis. My only regret is she did not go after an indictment of little Lindsey Graham.

      1. Ivan

        Little Lindsey is a very SAD story. He was very critical of Trump. Then Trump gets in office and ask for all the confidential information on those who have been critical of him. Two months after his inauguration Trump and Lindsey have a meeting in the White House and after that Lindsey is kissing orange ass ever after. After Trump loses the election, he talks about how he knows a lot of things about people in Washington – and Lindsey gets involved in the conspiracy to steal the election. What is it that Trump found in those confidential files that he could threaten little Lindsey with?

        1. pgl

          “Lindsey gets involved in the conspiracy to steal the election.”

          When little Lindsey saw that some of those jurors thought he should be indicted, little Lindsey said he did nothing to change the vote count in Georgia.

          But wait – the Georgia Sec. of State says little Lindsey asked for an “audit” of the envelopes hoping some of the votes be thrown out.

          Clearly – one of them is lying. Which one do you think is the liar here?

  4. Moses Herzog

    If any of you missed Neal Katyal’s abbreviated appearance on the Lawrence O’Donnell show, it is short, sweet and I promise you, giggle inducing. Katyal responds to Jeffrey Clark’s discussion of Katyal going to “Burning Man”. Really funny stuff, and Katyal handled it like the true gentleman of old school politeness that he is. It truly had me giggling at the end of the day here. Harder to get late night giggles during the writers’ strike. “The Barbara Gaines Show” is my only dependable respite for humor recently. Hey~~those who know, know.

    1. joseph

      A true gentleman? This is the guy who cashed in his government connections to go Big Law and become a multi-millionaire billing at $2,500 an hour.

      Katyal argued two big union busting cases before the Supreme Court, Janus v. AFSCME. and Epic Systems Corp. v. Lewis, that gutted labor unions.

      And then he argued the Nestle and Cargill case defending child slave labor. Hey, even huge, rich human rights violating corporations deserve legal representation, am I right? Especially at $2,500 an hour.

      Katyal also highly praised and loudly endorsed both right-wing extremists Gorsuch and Kavanaugh for Supreme Court positions, even formally introducing Gorsuch to the Judiciary Committee. Can’t hurt to do a little sucking up to the court members his law practice depends on.

      1. Moses Herzog

        @ Joseph
        I have to plead ignorance on this because I was not aware of these things on Katyal’s corporate work against unions. But I appreciate you making me aware and educating me. (no sarcasm). Perhaps I was being naive, or lazy, or both not looking into Katya’s background more. I have to admit he had me fooled.

    2. pgl

      Kevin Drum catches something similar from Tucker Carlson:


      In case you haven’t heard, Tucker Carlson’s latest is that in 1999 Barack Obama had a night of coke-fueled sex with a guy named Larry Sinclair, a serial con artist with a very long rap sheet and a slew of aliases. Seriously.

      I say “latest,” but only because it’s new for Tucker. For the rest of us it’s just ancient conspiracy theory twaddle. Sinclair wrote a whole book about it back in 2008 and it was as laughable then as it is now. He even dramatically agreed to take a lie detector test—and failed it. In true Trumpian style, he then insisted that one of Obama’s aides had bribed the polygraph folks to rig the test. So why do I care about this? I don’t. But it goes to show something unexpected: apparently Fox News really did keep a lid on Tucker while he worked there. It often seemed as if his ranting could hardly get worse, but it’s now obvious that it could—and has. No wonder they fired him. He must have been even more of a loose cannon than we imagined.

      1. Ivan

        Maybe I should write a book about a night of coke-fueled sex with Trump and Lindsey in a worst nightmare treesome – and how the secret video recording became a key part of a conspiracy to steal the 2020 election from Biden. There might be some money in it?

        1. Moses Herzog

          The storyline seems like some kind of a letdown if it doesn’t include Russian hookers. I’m probably just speaking for myself though.

          There have been some stories online about Lindsey though (stomach turning type, again, speaking for myself). Ehhh, some of them pretty detailed, and striking me as very legit. But then I still give credence to the gold showers thing on the Orange Abomination so….. take my thoughts for what they are worth. Most people, even on the left, have written off the gold showers tale so……. it also appears I’ve made a slight fool of myself thinking Prigozhin would last longer than he did. It would help though if we had bones that matched teeth records or something. But I put it at 80% Prigozhin did die in the plane crash, which makes me wrrrr……. wrrrr…… wrrrr—aaaww makes me wrrr–aaaww, makes me wrong on my original theory. Damn I hate doing that. Where’s Rosser with the heavy cast iron skillet??

  5. New Deal democrat

    When it comes to the yield curve, I do not think “it’s different this time.” In large part, that is because almost all of the other long leading indicators, which usually peak a year or more before a recession, continue to be negative: corporate bond (and mortgage) interest rates, corporate profits adjusted for labor costs, and real M1 and M2. Housing permits have improved significantly off their lows from earlier this year, but typically they follow mortgage rates, and if purchase mortgage applications, which are close to 30 year lows, are any indication, permits will be heading back south shortly.

    What *has been* different this time are the shorter leading indicators. Housing under construction and motor vehicle sales are all close to their expansion highs. But most importantly, commodity prices, which in the 20th century typically declined because of US demand destruction, instead declined very sharply because (1) the West found a way around Russian gas extortion, (2) pandemic-related bottlenecks eased, and (maybe) (3) if there is domestic demand destruction in China, this can redound to the benefit of domestic US production and consumption.

    My suspicion is that the tailwind from commodity price declines is, to coin a meme, “transitory,” which will leave the headwinds from the long leading indicators intact.

    1. Moses Herzog

      @ New Deal Dem
      Curious minds want to know if you are leaning towards Q4 ’23 or does it happen in ’24?? The reason I ask is so later we don’t have to read you “knew” this was going to happen in Quarter “X” when you never indeed said it. I had thought earlier you intimated strongly you thought it would occur in ’23. But I guess you left yourself some “wiggle room” there. This was a favorite stunt of Professor Rosser’s~~to later say “I knew buhduh buhduh buhduh would happen” when he never had stated it beforehand. I hate when TV talking head “experts” do this, I hate when the David Brooks of the world do this, and I hated it when Professor Rosser did it. So I just only ask, if you want to state later “I strongly felt the recession would happen at time X” please spare us the unverifiable claims of “I thought earlier that”, and go ahead and tell us now.

      1. New Deal democrat

        No problem. The truthful answer at present as to when I think it will happen is ‘I don’t know.”

        I liken a turndown in the long leading indicators to a severe weather “watch.” There’s an elevated risk, but no imminence. When the short leading indicators also turn, that’s the equivalent of a “severe weather warning.” It’s going to happen, and very shortly.

        There is still a watch, but no warning.

        In late last autumn, the bulk of short leading indicators were negative and the price of gas stopped declining, so I went to a warning. What was truly different was the dynamic as to why the broad mass of commodity prices were falling – and continued to fall, as I described above. So some NBER indicators went negative, like industrial production and real manufacturing sales, but others like real income did not.

        It looks like the bottom in commodity prices was several months ago, so we’ll see what happens. I promise, if and when the short leading indicators roll over, I will let you know. Fair enough?

    2. Macroduck

      If you distinguish between new and used home sales, sales which generate a lot of economic activity vs a little, you see some wiggle room for housing not becoming a drag:


      Sorry for what maybe my least carefully crafted picture ever, but you get the point. This time is different in part because so many used home owners are locked into their mortgage and house.

      1. New Deal democrat

        No problem about the graph. I’ve run similar ones. I wish the NAR weren’t so squirrelly about letting FRED keep all their data.

        I totally agree about existing homeowners being locked in place by 3% mortgages, thereby keeping a large swath of potential inventory off the market. As a result, buyers have turned to new homes, where builders have cut the median price by about 15%, in part by building a record number of condos and apartments. Btw, very similar to what happened 50 years ago when Boomers first hit the market in large numbers.

        Housing permits and starts for multi family units have turned down. The question is, when do multi family units under construction also turn? I don’t have that answer.

    3. Ivan

      It’s my understanding that purchase mortgage applications are mostly a reflection of already build homes changing hands. People sell their homes and buy another (upsizing/downsizing) – and in the process new mortgages (for seller and/or purchaser) are created – but little is added to the GDP since it basically is an exchange of assets. Sale of existing homes has been drastically reduced because of the increase in mortgage rates.

      Mortgages for newly build homes are a small part of total mortgage applications compared to existing homes. However they are reflective of a much larger effect on GDP because they reflect significant economic activity to build that new home. Demand for new homes is reflective of the Covid push where everybody wanted into a house but it will likely continue as long as prices don’t fall.

      Permits follow predicted demand for new houses, which normally follow mortgage rates and overall purchase application. However, there may be one way that this time is different (and could brake those normal patterns of correlation). The fall off a cliff of available existing homes may drive an “unnatural” demand for more new homes even in the face of increased rates and overall falling purchase applications (for new + existing homes). Since new home building is what contribute to GDP the expected correlations to that parameter may also brake. Keep an eye on the ratio of new home sales to existing home sales and also the absolute changes in permits and housing starts.

  6. Moses Herzog

    We don’t hear Republicans talk about the extreme waste of unnecessary government subsidies (U.S. farmer welfare) much lately do we?? How did that go under MAGA I wonder?? And how much have those farmer welfare payments lowered under President Biden I wonder?? I guess Bruce Hall, CoRev, and Rick Stryker don’t clean windows, they don’t flush after shitting, they don’t use their car’s turn signal when changing lanes and they don’t discuss how farm subsidies/welfare have lowered dramatically under President Biden.

    Neither does Nancy Pelosi for that matter. Guess frozen smile Nancy is trying to figure out how she will impede and stall the next Republican President’s impeachment until that one loses momentum. She does believe in bipartisan waste though. She’s “special” like Professor Rosser was.

    People have said for years that it was a “false claim” that Pelosi wasted all that money flying the military plane back to her home. My question is, if Pelosi attempted to get that expensive plane and was turned down by the Pentagon (of all outfits, not terribly concerned about government waste), what difference does it make if Pelosi indeed wanted to do it and failed?? If the child reaches into the cookie jar for 15 cookies but then stops right when her parents walk into the kitchen, do we say the child is a paragon of self-control??

    “Because the C-20 generally would need to stop and refuel to make it all the way to the Bay Area, Pelosi requested a plane that could make it to California without having to stop along the way, and asked for clarification from the Pentagon about whether friends and colleagues could accompany her.

    Various Republican officials in recent days have claimed that Pelosi has requested a C-32 plane for her travels — a luxurious and specially configured version of the Boeing 757-200 commercial intercontinental airliner. The plane seats 45 passengers with business-class accommodations and a crew of up to 16, depending on the mission. It features a communications center, a fully enclosed stateroom for the primary passenger, a changing area, a conference facility, an entertainment system, and a convertible divan that seats three and folds out to a bed. The C-32 can cost as much as $22,000 an hour to operate. It’s normally used by the first lady, the vice president, Cabinet officials and members of Congress upon request.”

    1. Ivan

      So how often have the first lady, the vice president, cabinet officials (names please) and member of congress (names please) used this form of transportation?

      1. Moses Herzog

        @ Ivan
        This is a great question. I do not know the answer. The only point I would make is, however much or however little it has been used, it doesn’t clear Pelosi of thinking her exorbitant personal conveniences under the ruse of “security” are to be paid for by the American people.

        1. Ivan

          Securing the life of the number 3 in line for the Presidency is not necessary “exorbitant” and for sure not a “personal convenience”. It is essential for our democracy that crazies cannot murder or intimidate our elected leaders. Security is not a “ruse” but a very real problem as demonstrated by the nutcase attack on the husband of Pelosi in her home. The President and Vice-President (number 1 and 2 in line) are given a very expensive plane with all the office conveniences, for their travel. This is both for their safety and to ensure that they can work and be in contact with the Washington powers and information systems non-stop. Same reason that pretty much every CEO of a multinational company has similar private plane transportation. The reason it would be important to compare Pelosi to others at the top of the power pyramid is to see if she did indeed get special treatment out of line with others who presumably can request the same plane (first lady, cabinet secretaries, etc.).

          1. Moses Herzog

            We will have to “agree to disagree” on the lengths needed to go to ensure the Frozen Grinned One’s “security”, which apparently involved direct non-stop flights and X number of friends/family on the plane to “ensure” the Frozen Grinned One’s “safety and security”. Her daughter and/or BFF were going to jump on top of the bomb in-flight?? Of course….. of course….. I understand.

  7. joseph

    Oh my, Moses going on another of his anti-woman rants, reaching all the way back to 2007 to dredge up another fake Republican scandal.

    Come on, Moses: “Various Republican officials in recent days have claimed that Pelosi has requested a C-32 plane for her travels — a luxurious and specially configured version of the Boeing 757-200 commercial intercontinental airliner. ”

    Various Republican officials claimed!! That didn’t give you a clue? Various Republican officials claimed Trump won the election. And you just swallowed it up in your eagerness to jump on another woman in politics?

    This has all been debunked repeatedly — starting in 2007, again in 2016 and yet again in 2021. She used the C-32, once, at the request of the Sergeant of Arms when no other plane was available. She has had hundreds of flights since then, often on commercial and sometimes on military planes. She didn’t routinely use the Boeing 757 because she didn’t have to. While the 12-seat C-20 Gulfstream III could not make the non-stop flight another available plane, the 12-seat C-37 Gulfstream V could make the flight non-stop. So this notion that she needed or asked for a Boeing 757 is just codswallop, dished up by Moses.

    What’s next, Moses? Are you going to tell us how various Republican officials claimed that Hugo Chávez rigged the Dominion voting machines?
    Hey, there’s even a picture of her flying coach on a commercial plane!

    Moses, I think you owe the forum an apology for posting right wing propaganda.

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