The flattening of the yield curve : causes and economic policy implications
The article examines the flattening of the yield curve in the euro area since mid 2004, and that in the United States where a slight inversion has actually been apparent since mid 2006. Analysis has shown that, apart from the tightening of monetary policy, this phenomenon is due to a substantial reduction in the risk premium, and especially its real component. It also indicates that this contraction was caused mainly by strong demand for government bonds on the part of atypical investors, in particular, the Asian central banks and pension funds. In addition, the study revealed that the reliability of break-even inflation as an indicator of inflation expectations is not really affected by this flattening, since the reduction in the inflation risk premium made only a small contribution to the contraction of the overall risk premium. Conversely, the analysis indicates that the quality of the yield curve as an advanced indicator of the business cycle is affected by the contraction of the risk premium. Since the flattening of the yield curve is due to adjustment of the risk premium rather than revised interest rate expectations, the current behaviour of the yield curve does not signal a marked slowdown in economic activity. Since, the contraction of the risk premium corresponds to an easing of financial conditions, the monetary authorities need to exercise great vigilance in order to ensure price stability in the medium term. Vigilance is all the more necessary if the reduction in the risk premium is not due to changes in the macroeconomic fundamentals. In that case, there is also the risk of a possible upward adjustment to long-term interest rates. However, it should also be noted that the demand currently exhibited by atypical investors seems to be more structural than that generated by the “flight to quality” which lay at the root of the decline in the risk premium during the period 1997-1998. The risk premium reduction which occurred between June 2004 and June 2005 therefore appears to be more persistent than that seen between mid 1997 and the end of 1998.
Volume (Year): (2007)
Issue (Month): i (June)
|Contact details of provider:|| Postal: Boulevard de Berlaimont 14, B-1000 Bruxelles|
Phone: (+ 32) (0) 2 221 25 34
Fax: (+ 32) (0) 2 221 31 62
Web page: https://www.nbb.be/
More information through EDIRC
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- James H. Stock & Mark W. Watson, 2002.
"Has the Business Cycle Changed and Why?,"
NBER Working Papers
9127, National Bureau of Economic Research, Inc.
- Andrew Ang & Monika Piazzesi & Min Wei, 2004.
"What Does the Yield Curve Tell us about GDP Growth?,"
NBER Working Papers
10672, National Bureau of Economic Research, Inc.
- Andrew Ang & Monika Piazzesi & Min Wei, 2003. "What does the yield curve tell us about GDP growth?," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
- Ang, Andrew & Piazzesi, Monika & Wei, Min, 2006. "What does the yield curve tell us about GDP growth?," Journal of Econometrics, Elsevier, vol. 131(1-2), pages 359-403.
When requesting a correction, please mention this item's handle: RePEc:nbb:ecrart:y:2007:m:june:i:i:p:47-60. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: ()
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.