In recent weeks, the yield curves for several countries have flattened significantly: a) What does a yield curve flatten
Posted: Tue Nov 16, 2021 9:30 am
In recent weeks, the yield curves for several countries have
flattened significantly:
a) What does a yield curve flattening mean for the expected
future performance of the economy? Are financial market
participants in South Korea and New Zealand more optimistic or
pessimistic now than six months ago? Why? Explain.
In the UK, the yield curve flattening became especially
pronounced in late October, with long-end bond yields (the rates on
10-, 20- and 30-year "gilts") plummeting at the fastest pace since
the start of the Covid-19 pandemic in March 2020 and sending the
spread versus short- and medium-term rates to their lowest in over
a year. This was widely interpreted by analysts and pundits as
evidence that market participants were worried about the Bank of
England's monetary policy. Throughout October, members of the
Bank's Monetary Policy Committee (MPC) had spoken publicly about
their concerns over rising inflation and their determination to act
decisively to combat it by raising the interest rate.
On Thursday, November 4, 2021, the Bank of England's MPC voted
to leave its policy rate (the 'Bank Rate') unchanged at its
historic low of 0.10%, surprising investors who had fully
anticipated an increase. On that day, the British pound fell
sharply against both the US dollar (more than 1%) and the euro
(more than 0.5%) and stayed lower. The yields on 2-year gilts fell
by 21 bps.
b) Explain why the pound depreciated when the Bank of England
surprised market participants by not hiking its policy rate as
expected.
c) Explain why the yield curve steepened again after the Bank of
England's decision not to raise rates. Are UK financial market
participants more optimistic or more pessimistic about the future
performance of the British economy than they were in October?
Why?
flattened significantly:
a) What does a yield curve flattening mean for the expected
future performance of the economy? Are financial market
participants in South Korea and New Zealand more optimistic or
pessimistic now than six months ago? Why? Explain.
In the UK, the yield curve flattening became especially
pronounced in late October, with long-end bond yields (the rates on
10-, 20- and 30-year "gilts") plummeting at the fastest pace since
the start of the Covid-19 pandemic in March 2020 and sending the
spread versus short- and medium-term rates to their lowest in over
a year. This was widely interpreted by analysts and pundits as
evidence that market participants were worried about the Bank of
England's monetary policy. Throughout October, members of the
Bank's Monetary Policy Committee (MPC) had spoken publicly about
their concerns over rising inflation and their determination to act
decisively to combat it by raising the interest rate.
On Thursday, November 4, 2021, the Bank of England's MPC voted
to leave its policy rate (the 'Bank Rate') unchanged at its
historic low of 0.10%, surprising investors who had fully
anticipated an increase. On that day, the British pound fell
sharply against both the US dollar (more than 1%) and the euro
(more than 0.5%) and stayed lower. The yields on 2-year gilts fell
by 21 bps.
b) Explain why the pound depreciated when the Bank of England
surprised market participants by not hiking its policy rate as
expected.
c) Explain why the yield curve steepened again after the Bank of
England's decision not to raise rates. Are UK financial market
participants more optimistic or more pessimistic about the future
performance of the British economy than they were in October?
Why?