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Terminology spread and decline across countries


The government bond world has this interesting Page It records all inverted yield curves as of today. Shown below are S&P ratings from A to AAA as of today.

source: Government Bond World, accessed March 14, 2023.

What does it mean? In Chinn and Kucko (2014), we examine the relationship between ten-year three-month spreads and recessions as defined by ECRI (as defined by NBER for the US). Using interest rate data as of 2021M12, here are the results of forecasting a recession for the year ahead. We note that not all countries show a reliable relationship between the 10-year to 3-month spread and the subsequent year’s recession. Here are some preliminary results in collaboration with Laurent Ferrara, updating data to 2021M12 (rates), assuming no recession starts in these countries by December 2022.

Table 1: Probit regression results for the term spread and the 3-month rate (in decimal form) one year in advance of the recession date. Bold indicates significance at the 5% level. Source: Authors’ calculations based on OECD interest rate data, ECRI recession dates (except US, which uses NBER dates).

While the word has many significant entries in various countries, the symbol is wrong for Italians. Even if the coefficient is significant, pseudo-R2 Very low (UK, and to a lesser extent, France). This means that the term spread is really only useful for Canada, Germany and the US.

These are simple forecasts for Canada (excluding 3m rates) and Germany. Note, however, that the last observation is the predicted probability for December 2023; in both cases, the probability for March 2023 (now) is very low. (However, false negatives are common unless a low threshold is used, except in Canada.)

figure 1: Probability of Recession in Canada 10-Year to 3-Month Spread The probability of a recession for a given month. Canada ECRI recession dates from peak to trough are shaded in gray. Source: OECD via FRED, ECRI and author’s calculations.

figure 2: Probability of German 10-year to 3-month term spread Recession Probability of recession for a given month. Recession dates for Germany’s ECRI from peak to trough are shaded in grey. Source: OECD via FRED, ECRI and author’s calculations.

The same is true for the US, where the estimated probability of a recession is only above 50% in December 2023/January 2024. On the other hand, the 10-year to 3-month spread puts the probability of a recession in 2020M02-04 as high as 2020M08.



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