Mar 20, 2017

Bond investors are nervous about the global economy

For the first time in many years, the Federal Reserve and investors are on the same page when it comes to the pace of interest rate hikes this year, with both, on average, predicting 3 rate increases. But there remains significant disagreement between the Fed and markets on where the economy will be in 2018 and beyond.

Data: Department of the Treasury; Chart: Andrew Witherspoon / Axios

Over the past month, the short end of the yield curve has jumped as investors began to believe that there would three rate increases in 2017 on the strength of a faster-growing global economy. But, according to Brown Brothers Harriman's Marc Chandler, "The Federal Reserve has been unable to rebuild its credibility in the sense that investors still doubt that the central bank will deliver the rate hikes that it thinks will be appropriate. If investors took seriously that the Federal Reserve would hike rates five more times by the end of next year, the two-year note would not be yielding around 1.30%."

Why it matters: The Fed says that the U.S. economy will continue to pick up steam next year and beyond. If markets believed the central bank, they would be selling longer-termed U.S. debt and demanding higher returns to make up for future higher growth and inflation. But they're not. If the yield curve continues to flatten like this, it will be bad news for the economy going forward.

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