The bond market is flashing a recession warning, but that’s no cause for alarm yet
- Historically, a yield curve inversion precedes a recession. However, following an era of easy money, an inversion might simply signal that markets are expecting loose monetary policy again
Out driving the other day, an orange warning light appeared on the dashboard. My first thought was not that the engine was about to burst into flames, nor did I abruptly pull over. I continued driving towards where I was going and then I drove home again.
My calmness was due to the realisation that warning lights themselves are not a sign that something bad has happened – smoke from the engine would be in this case – but that something bad may happen.
More than a quarter of global bonds have negative yields, the yield on German government bonds has recently turned negative all the way out to 30 years, and many other government benchmarks are at record-low levels.
All the negativity on yields adds to the growing chorus of global recession-watchers. But what are bond markets really telling us about the health of the economy?
Buying a government bond means lending the government money. There are a variety of factors which determine the compensation or interest the lender earns, general levels of supply and demand for the bonds, the prevailing cash rate at the time, the length of the loan, and expectations around how much economic growth, and therefore inflation, there will be in the future.
