A flatter US yield curve points to less rosy conditions in the years ahead as the Federal Reserve (Fed) ploughs on with its interest rate tightening cycle.
On Tuesday, Dallas Federal Reserve president Robert Kaplan warned that the US Treasury yield curve showed that markets were expecting “sluggish” economic growth.
Kaplan wants the Fed to hold off on further interest rate hikes this year until there is evidence of stronger inflation. Last week, the Fed announced its second 0.25% rate rise of 2017, taking US rates to between 1 and 1.25%.
A flatter yield curve, with long-term Treasury yields now lower than they were six months ago, could indicate that investors expect slower economic growth ahead.
However, not everyone agrees with Kaplan´s analysis. Earlier this week, New York Fed president William Dudley claimed that the flatter yield curve was a sign of subdued overseas inflation and borrowing costs rather than expectations for a weaker US economy.
US inflation eased for a third consecutive month in April, with the core personal consumption expenditures price index (PCE) falling to 1.5% year-on-year compared to 1.6% in March.
Meanwhile, investor inflation expectations as measured by 10-year US break even rates had fallen below 1.7% by last week, compared with over 1.8% at the beginning of June.
At the same time, the US economy grew by 1.2% during the first quarter of 2017, a marked deceleration from the 2.1% pace registered in the final quarter of 2016.
Further rate rise
The Fed has previously guided that it would announce a total of three 0.25% rate rises during 2017 provided the US economy remains broadly on track, so investors should be prepared for at least one further rate hike this year.
Justifying its stance of gradual rate rises, the Fed points to a strengthening US labour market. Unemployment fell to 4.3% in May, the lowest level since 2001.