The 3-month to 10-year Treasury yield curve inverted for 25 consecutive months starting in November 2022, yet this did not trigger a recession. During this period, the federal government accounted for 38% of new non-financial sector borrowing, compared to only 19%-24% during previous periods of inversion. The Federal Reserve can primarily suppress household and corporate credit, but the private sector currently has lower leverage, longer-term corporate debt, and significantly reduced sensitivity to short-term interest rates. The ratio of non-financial corporate commercial paper and bank loans to bonds has fallen to 21%, compared to 69% in 1969 and 70% in 1973. Meanwhile, the government will continue to borrow and spend.
Steven Blitz, chief U.S. economist at TS Lombard, believes that in a fiscally driven environment, simply raising the federal funds rate would require a much larger increase to suppress overall demand. If the government continues to expand financing, short-term rate hikes will have limited impact on the economy; the real tightening effect will likely come from the 10-year and 30-year Treasury yields.
