Kenneth R. Szulczyk
Economists use the yield curve to predict economic activity. When a yield curve is
downward sloping, such as a three-month T-bill interest rate exceeds the 10 - year T-bond, a
recession usually occurs one year later. Investors become pessimistic about the future and reflect
their pessimism in the term structure of interest rates. We illustrate a normal, upward-sloping
yield curve in Figure 5 for July 28, 1999, when the U.S. economy grew furiously with a low
unemployment rate.
Yield curve inverted before the recessions of 2007, 2000, 1991, and 1981 had started. For
example, the yield curve inverted on July 31, 2000, and the United States entered a recession in
March 2001. Furthermore, the yield curve flipped upside down on July 17, 2006 and inverted
several times through the year. Subsequently, the U.S. economy entered the Great Recession in
December 2007, becoming the worst recession since the 1930s Great Depression (Haubrich and
Millington 2014 ). Unfortunately, the world’s economy still feels the lingering effects of the
Great Recession in 2014.
Although many economists and analyst use the yield curve to forecast recessions, the yield
curve is not a perfect predictor. It predicted two recessions in 1966 and 1998 that never occurred
(Haubrich and Millington 2014 ).
Figure 5. The Yield Curve for U.S. government securities for three specific dates
4
4.5
5
5.5
6
6.5
7
3 month6 month
1 year 2 year 3 year 5 year 7 year 10 year20 year30 year
7/28/1999
7/31/2000
7/17/2006