Yield Curve Inversion
AdvancedA yield curve inversion is when interest rates on short-term government bonds rise above those on long-term government bonds, reversing the usual pattern in which longer loans pay higher rates.
Normally, investors demand higher yields for lending money for longer periods, so the yield curve slopes upwards. An inversion happens when short-term yields exceed long-term yields, often because central banks have raised short-term rates to fight inflation while investors expect slower growth and lower rates in future.
Common measures compare the yield on ten-year government bonds with two-year or three-month yields. For example, if the two-year yield is 4.8% and the ten-year yield is 4.2%, the curve is inverted.
Yield curve inversions have attracted attention because, in the United States, they have preceded most recessions in recent decades, often by around one to two years.
An inversion is a warning sign, not a guarantee. The timing between inversion and recession has varied, and some inversions have not been followed by recessions, as with the long US inversion that began in 2022. Factors such as central bank bond purchases can also affect long-term yields, making the signal harder to interpret.
For worked examples and full lessons, visit notesbysara.org.