The Yield Curve Visual is composed of Treasury yields of different maturities. Short-term bonds incur lower risks and produce lower yields than long-term bonds. So a normal yield curve usually looks like a normal slope, or a positive yield curve.
Flat Slope forms during the Growth phase During the Growth phase, the optimism in the market pushes asset prices to rise. In late Growth, aggregate demand increases and inflation rises. The Central bank will start raising interest rates to battle inflation. Short-term bond yield increases as rates rise, and the yield curve flattens. Stocks generate higher returns than bonds when yield spread reduces.
Inverted Slope forms when the economy is Overheating As the Central bank tightens and liquidity reduces, corporate profits stop growing. Long-term bond yield drops because economic growth slows down. The yield curve inverts and yield spread turns negative.
Steep Slope shows during Recession High interest rate and inflation growth cause investment to leave the market. Long-term bond price rises due to risk-aversion. The Central bank cuts rates to stimulate the economy and short-term yield decreases. As the Bank starts purchasing bonds on a large scale, the loose environment cultivates a steep slope in the yield curve.
Yield curve becomes a Normal as the economy Recovers Loose monetary policy has taken effect and the economy recovers as consumption and investment rebound. The Bank continues loosening and the yield curve normalizing. Stocks and bond price surge.
This Visual presents the yield curve of Japan, the US, Germany and the UK since 2007, indicating the direction of the investment flow during the given time frame. When Japan cut rates to below zero, Japanese yen has since became a popular carry trade currency. Germany and the UK short-term bond yields were higher than the US back in 2014, indicating that the US dollar was a profitable forex. After 2015, the yield curves show that investment in other foreign currencies other than the US dollar is more profitable.