Yields that have hit multiyear lows reflect the difficulties central bankers face in normalizing monetary policy after a decade of unusually easy money. Many investors, economists and policy makers had assumed that the Trump administration’s tax cuts and looser regulation would spur stronger growth and higher inflation and, in turn, higher interest rates.
The opposite has played out this year. The falling 10-year yield, a barometer that helps set borrowing costs across the economy, suggests the economy isn’t humming along as strongly as previously believed. The souring outlook for growth prospects has also weighed on yields across Europe.
In the U.K., 10-year yields Thursday fell close to their lowest levels since late 2016, hitting 0.805% after a downbeat assessment on the economy from the Bank of England. The monetary authority voted to hold interest rates steady, but noted rising risks to growth including trade tensions and the risk of Britain quitting the European Union with no agreement on future relations in place.
The central bank is still predicting a gradual rise in U.K. interest rates so long as Brexit goes smoothly, but the market is now forecasting a cut in rates is more likely over the next two years, according to economists at ING.
Elsewhere in Europe, Italian 10-year yields also continued to fall sharply, reaching 2.012%, their lowest levels since May last year, while German yields remained deeply negative and close to record lows at minus 0.313%.
For investors, low rates often encourage moves into riskier, higher-yielding investments such as corporate debt and stocks. Falling U.S. yields also tend to weaken the dollar and give other economies greater room to cut their own official interest rates.
Falling yields have caught nearly everyone by surprise. In January, none of the 69 economists surveyed by The Wall Street Journal predicted yields would fall below 2.5% by June. The average forecast was about 3%, indicating bonds would have a modest selloff by now.
Instead, the Treasury yield, which moves inversely to prices, was recently at 1.98%, the lowest since late 2016. U.S.-China trade tensions, global growth concerns and falling inflation expectations have prompted demand for safe-haven assets such as U.S. Treasurys. The latest drop came after the Federal Reserve kept its benchmark interest rate unchanged and signaled a rate cut could come soon.
Much has changed this year. After the Fed raised rates four times in 2018, it had at first signaled it would keep tightening policy. That is one reason economists’ yield forecasts started the year so high.
Likewise, most investors in the futures markets started the year forecasting policy rates would be unchanged at year’s end, according to the CME FedWatch tool. Now, the most popular forecast calls for three rate cuts by December.
A measure of U.S. inflation expectations by the University of Michigan fell this month to the lowest level in the 40 years the question has been included in the survey.