Thursday, June 04, 2009

NY Fed Treasury Spread Model Suggests Economic Recovery Has Started, Recession Will End This Year

According to the New York Fed, "Research beginning in the late 1980s documents the empirical regularity that the slope of the yield curve is a reliable predictor of future real economic activity."

New York Fed just released its latest "Probability of U.S. Recession Predicted by Treasury Spread," with data through May 2009, and the Fed's recession probability forecast through May 2010 (see chart above, click to enlarge). The NY Fed's model uses the spread between 10-year and 3-month Treasury rates (currently at 3.11%) to calculate the probability of a recession in the United States twelve months ahead (see chart below of the Treasury spread, click to enlarge).

The Fed's data show that the recession probability peaked during the October 2007 to April 2008 period at around 35-40%, and has been declining since then in almost every month (see top chart above). For May 2009, the recession probability is only 1.54% and by May 2010 the recession probability is only .17%, the lowest level since June 2005.

Further, the Treasury spread has been above 2% for the last 15 months, a pattern consistent with the economic recoveries following the last six recessions (see chart above). The pattern of the recession probability index so far this year (going below double-digits and declining monthly) is very similar to the pattern starting in March 2002 that signalled the end of the 2001 recession (see chart below).

Bottom Line: Looking forward to next year, there is almost no chance that the recession will continue into 2010. Further, my reading of the New York Fed's Treasury spread model suggests that an economic recovery is probably already underway, and the Fed's model predicts the end of the recession in 2009.


At 6/04/2009 6:58 AM, Blogger juandos said...

Hmmm, what part will inflation play in this rosey scenario?

At 6/04/2009 7:13 AM, Anonymous geoih said...

You mean all the models that didn't predict the present recession? Macroeconomics is fortune telling.

At 6/04/2009 7:35 AM, Blogger The Right Guy said...

If recovery is here, then I have to ask were we lied to as to how bad it was? I have to wonder if we were scammed for the purpose of socialism.

At 6/04/2009 9:16 AM, Anonymous Anonymous said...

Don't you suppose that the unprecedented level of announced future deficits has had some effect in raising long-term interest rates?

At 6/04/2009 9:21 AM, Blogger Mayfield said...

Taking the chart at face value, I fear a double dip recession that will make this one look very mild.

Inflation is the big concern. When the economy starts growing again, the Fed will have to come to terms with a doubling of the monetary base as well as historically low rates.

I think we will have double digit inflation with 5-6 years if not sooner.

I think the dollar is a lot weaker than many suspect.

How many more companies can the government nationalize and maintain the facade of a market system?

At 6/04/2009 11:02 AM, Blogger Benjamin Cole said...

I sure hope we have some inflation. I would like about 5 percent a year for 10 years, while we balance the federal budget.
If we cut our national debt in half, it will be a lot easier to pay off. So will be my mortgage. While my factory in nominal terms rises in value.
We are the only nation that can inflate our way out of debt. We should do so.
We will have to get tough on spending and taxing to balance the federal budget. I am sure that will happen--all the more meaning we have to inflate our way out....

At 6/04/2009 11:26 AM, Blogger Unknown said...

Yes, Benjamin. We will inflate you and all other net debtors out the pickle you got yourselves into by destroying the prudent savers. That's a great plan - especially given how many baby boomers are about to retire. Punishing prudent behaviour doesn't get you more of it.

Once again, the Fed's buying and guaranteeing spree has convinced people that risk is subsidized. This is the same risk we took to get us into this mess. If we crawl out of this thing by pumping up the credit bubble (which is what's happening), we're just headed for the mother of all crashes within five years. Were it not for the largest intervention in the history of the U.S. economy (the response to this recession is 12 times greater than the response to the Great Depression), I might believe the indicators. As it is, the manipulation of data and prices is on par with the Soviet Union at this point. Don't be so gullible.

At 6/04/2009 11:49 AM, Anonymous Anonymous said...

"Were it not for the largest intervention in the history of the U.S. economy..."

But only about $37Bn of the over 70Bn stimulus money has been spent thus far. Can we credit this recovery to government intervention??

At 6/04/2009 11:51 AM, Anonymous Anonymous said...

*But only about $37Bn of the over 70Bn...
I meant over $700 Bn...left out a zero

At 6/04/2009 4:09 PM, Blogger Public Library said...


There has been $12T in credit intermediation. Forget about the paltry $800B stimulus. That is chump change.

TIPS, Commodities, and Non$ assets all the way!

At 6/04/2009 4:44 PM, Blogger Alan said...

Public Library,

much of the immediate help to the economy has come from the Fed's action and the credit intermediation you mention. The Fed's actions will be something to watch, if they can't pull extra liquidity out we will have inflationary pressures the rest of this year and next.

As for the credit assistance, I'm not sure it would have been needed if we hadn't imiplemented FAS 157 back in November of 2007.

The "stimulus" itself is and has been basically useless. At best, it's given people a bit of confidence to go out and spend money... .otherside no impact. IMHO

At 6/04/2009 4:50 PM, Anonymous American Fool said...

Money supply is up a ton, but credit availabilty is down a ton, and net $ availability is up only marginally; this is not going to drive inflation. Now In a normal recession, various stimulus flows to individual pocket books and also to P&Ls. This go-around the banks are acting like giant sponges, the cash never hits the street. There is a counterbalance though... Gov't debt and related risk is steepening the yield curve, and this could very well tip the balance in favor of inflation, but my assessment is still net deflation over the next 5 years.

At 6/04/2009 6:18 PM, Anonymous Cheech (in) Marin said...

So the NY Fed Treasury Spread predicted this recession with 20% less accuracy than a coin toss. How impressive!

Then there's the false positive in 1967-1968 and some recurring hesitant hints of problems in the 1995-1998 period.

In hindsight, the decline in residential investment predicted this recession with 100% accuracy.

All you macroeconomic fortune tellers never seem to be able to make money based on your lame charts and leading indicators. You're like the phony psychic who responds with "I knew you were going to say that" to anything anyone says.

Why weren't these spreads and the BDI sounding alarm bells in 2005-2006 loud enough to raise concern?

At 6/05/2009 11:17 AM, Blogger Hot Sam said...

This comment has been removed by the author.

At 6/05/2009 12:18 PM, Anonymous David said...


I use to ove your blog, Mr. Perry. But I think the only thing we can predict we enough accuracy is the drop in credibility you'll experience 2-3 years from now.

Recession's over? common! For one thing, 10-year treasuries at 3,85% means only one thing: millions more foreclosures and bankruptcies to come thanks to the irresponsible actions of the Fed.

Can't wait six months from now to see how your recovery theory fared. Good luck.

At 6/05/2009 12:21 PM, Anonymous David said...

I should be more precise: treasuries at 3,85 going up means mortgage rates well above the necessary rate for a housing recovery.


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