Updated: Apr 15
Typically reflective of changes in economic data rather than the driver, when the yield curve inverts, as it recently has, and long-term interest rates are lower than short-term rates, expectations become focused on the economy slowing and in-time potentially entering a recession.
In an attempt to steer clear of a slowdown, which history proves eventually will come anyway, the Fed has been slow to increase interest rates through the recovery since the last recession. The current target rate for rates is at 2.25%-2.5%, with discussions of another .25% drop.
Why could this be a problem in the near future?
Consider this. Prior to the last recession, the target rate was 5.25% and rates reached as high as 5.41%, and prior to the 2001 recession, the target rate was 6.5% with rates reaching as high as 7.8%. To kickstart the economy after recessions hit, the Fed has typically cut rates by roughly 5%. In the current environment, however, there is clearly not enough runway to cut rates by 5%, and unless the Fed plans to engage in a negative interest rate policy to stimulate the economy, the alternative is what has proven to be less-effective programs, such as bond-buying and other stimulus policies.
Time will only tell if we wish that in this otherwise record-shattering economy interest rates had found their way well north of where they currently sit.