April 2020 Update: Treasuries Suggest Yield Curve Functionally Inverted
Kevin Erdmann | May 10, 2020 12:49AM ET
The Eurodollar charts are updated through Friday. The Treasuries chart is monthly.
The Treasuries chart suggests that the yield curve is functionally inverted. (The 10-year yield needs to get above the trendline.) Forward 5-year inflation expectations are below 1%. There is a lot of focus on the targeted lending facilities, etc., but, as in 2008, the Fed could really just do more standard stimulus. Just buy a bunch of Treasuries. If the cash just ends up in excess reserves with no increase in forward nominal spending and inflation expectations, then buy more.
The Eurodollar curves provide a little more optimism. It is good that in recent days, the long end of the curve has held up and lower rates are mostly from declining rates at the short end. The Fed could do more, but it could have done less, too.
The last chart, which is the market estimate of the first rise in Eurodollar rates, suggests also that the Fed has stimulated somewhat, but could do more. Before the coronavirus outbreak, I was worried that the Fed was just keeping monetary policy below neutral, so that the expected first date of an eventual rate increase was slowly moving back in time, similar to what had happened after 2008 each time they suspended Quantitative Easing operations. I was looking for the expected first date of a rate increase to move back to December 2021, which would have been bearish.
I thought that the pandemic might trigger a response from the Fed that was less complacent, and actually shorten the length of a coming contraction, even if the contraction was deeper. At first, this seemed to be the case, with the expected first date of a rate hike moving briefly all the way up to September 2020. Since then, it has moved back to September 2021.
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At this point, a lot depends on near-term real shocks related to the pandemic. But, higher inflation expectations would help, on the margin, I think.
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