Reading the Yield Curve Tea Leaves

Jim Hamilton covers a recent paper by Fed economist Jonathan Wright addressing exactly the question that I posed the other day: were interest rates more or less contractionary two months ago, when the yield curve was flat or slightly inverted but at lower interest rates, or today, when the yield curve is no longer inverted but is at a higher level?

The answer that Wright gives is that the two effects offset each other almost perfectly, so that the probability of recession given the slope and level of the yield curve was almost exactly the same 2 months ago as it is today. For those who are curious, there’s a 25-30% probability of a recession in the next 4 quarters, according to Wright’s model.