Fresh interest rate hikes by the central bank prompts changes to the short end the yield curve. Whereas, the longer end of the curve is mainly moved by market expectations for the future. This means that if the market believes that rates will go up in the long term, the curve will steepen at its end. However, in the example Bullard gave, the Fed would hike rates — steepening the front of the yield curve — but the yield on the 10-year Treasury sovereign bond, which would affect the end of the curve, would not follow suit, thus making the curve look inverted.
“I think this is the lead issue right now,” Bullard said.
The non-voting member of the central bank also told CNBC that the “yield curve inversion has had a tremendous track record in the U.S. of predicting recessions.”
Therefore, “I think you have to respect the signaling aspect of the yield curve.”