The US economist has a 100% record of predicting recessions. What does it say for this year?

Recessions in the United States have occurred since the late 1960s with an inverted yield curve in which short-term rates exceed those of longer durations. Fast forward to 2023, and that’s exactly what happened to the Treasury yield curve over the past month and a half. However, Harvey says that this time around, the U.S. economy will manage to avoid a real recession, even if it continues to slow down a bit more.

“My yield curve indicator turned red and it’s 8 for 8 in predicting a recession since 1968 — with no false alarms,” ​​Harvey, now a professor at Duke University’s Fuqua School of Business, said in an interview Tuesday. However, there are reasons to think this is a false signal.”

The spread between three-month rates and 10-year yields fell to almost negative one percentage point last month from a high of 234 basis points in May 2022. The spread on which Harvey’s work is based has inverted consistently since mid-November and stabilized at around minus 82 basis points on Wednesday.

Although the curve has inverted for the ninth time since 1968, Harvey said it is not a harbinger of a recession.

One reason is that the yield curve-growth relationship is so well-known and widely covered in the popular media that it now influences behavior. Awareness prompts companies and consumers to take risk-reducing measures, such as increasing savings and avoiding large investment projects, which bode well for the economy.

Another boost to the economy comes from labor markets, where the current demand for labor means that laid-off workers are finding new positions sooner than usual. In addition, he said, given that the biggest job cuts so far have been in the technology sector, the high-skilled workers recently laid off are also unlikely to be out of work for very long.

“Dodge the Bullet”

Harvey’s model was linked to inflation-adjusted returns, and he said inflation expectations have reversed, meaning traders have seen price pressures ease over time — also reducing the likelihood of a recession ahead.

“When you put it all together, it suggests we may be able to dodge a bullet,” Harvey said. “Avoid a hard fall – a recession – and run slow growth or small negative growth. If a recession comes, it will be mild.”

The level of real incomes also cast doubt on the recession signal. Inflation-adjusted US 10-year yields are likely well above the corresponding three-month yields. Although there are no three-month break-even rates, cross-referencing the last year’s CPI reading at one-year intervals will return a negative real rate for the tenor compared to the 10-year real yield above 1.5%.

Harvey’s opinion is not consensus. Many Wall Street firms are calling for a recession sometime this year or as early as 2024 after the Federal Reserve’s most aggressive hike in decades to curb inflation.

Former Fed Chairman Alan Greenspan said on Tuesday that a US recession was “the most likely outcome”, a sentiment echoed by former New York Fed President William Dudley.

If the U.S. economy can avoid recession, for Harvey, that won’t mean his model is now doomed.

“In science, we use models all the time, and they are simplifications of reality,” he said. “And part of the skill of a scientist is knowing when to apply the model and when not to apply it, or in other words, knowing the limitations of the Model. And maybe given that it’s my model, I’m in a good position to know the limitations.”

A wildcard, he said, is if the Fed proves to be pushing rates too high after its delay in raising rates last year.

Fed officials last month raised interest rates by half a percentage point to a target range of 4.25% to 4.5%. The quarterly forecasts released also showed rates ending at 5.1% next year without a rate cut until 2024, according to their median forecast.

According to the minutes of the December 13-14 meeting released on Wednesday, Fed policymakers confirmed their determination to lower inflation at last month’s meeting as well.

“I believe it’s time to end the tightening,” Harvey said.

This story was published from the teleagency feed without any changes to the text. Only the title has been changed.