Construction trends can predict yield curve inversions – St Louis Fed

A fall in planned housing construction can be used to predict a yield curve inversion and subsequent recession, researchers from the Federal Reserve Bank of St Louis find.

In two economic letters, the researchers examine a number of variables that have traditionally been used to predict recessions, such as manufacturing and construction employment. They also examine the expected housebuilding activity.

They plot the trends in these variables against yield curve inversions to analyse which one can predict an inversion that is followed by a recession.

They find that construction and manufacturing employment generally precede a recession, but follow a yield curve inversion. Consequently, they conclude that both of these measures can be ruled out as a leading indicator of a yield curve inversion.

But by analysing expectations of the future of the housing market rather than the current state of the sector, they find it has a stronger predictive power.

“The evidence makes it reasonable to expect that future housing trends will experience downturns before a yield curve inverts,” they say.

Housing construction authorisations peaked in March 2018 at 1.37 million units, and had declined by around 8% by October 2018, they say. Since then, the US yield curve has inverted three times – in December, March and May.