Consumers to bond Market: What, Me Worry?

Strong retail sales and results from Walmart suggest that fears of a recession sparked by an inverted yield curve may be overblown

By guest author Justin Lahart from Wall Street Journal

The U.S. Commerce Department on Thursday reported that retail sales rose 0.7 % in July from a month earlier, easily besting the 0.3 % gain economists polled by The Wall Street Journal expected and putting these 3.4 % above their year-earlier level. There was not any one thing behind the strength in spending—it was broad-based.

Furniture stores, gasoline stations, department stores, clothing stores—they all registered sales gains. The standout was non-store retailers, a category dominated by , which rose 2.8%. That was probably a reflection of consumers’ enthusiasm for the online giant’s Prime Day sale, which fell during July.

Amazon’s biggest bricks-and-mortar competitor, and now probably its most important rival in online sales domestically, also is performing well. Walmart on August 15, 2019 reported same-store sales rose 2.8 % in its second quarter ended July 31 from a year earlier. That was much better than the 2.1 % that analysts polled by Refinitiv estimated. The company raised its profit forecasts for the year, and its shares rose sharply. That is not a sign that America’s largest retailer is worried the economy is about to weaken.

And yet investors seem deeply worried, with the brief drop in the yield on the 10-year Treasury yield below the two-year yield seen as the latest sign that things are in danger of going badly amiss for the economy. Such yield-curve inversions, as they are called, frequently have been a sign of a looming recession.

Indeed, the part of the curve that economists have determined has the best forecasting record—the difference between the 10-year and three-month yield—has been inverted for a while now. A Federal Reserve Bank of New York model that uses it now puts the chances of a recession occurring in the next year at 39 %. That is the highest it has been since early 2007, when it got as high as 45%. By the end of that year, the recession had begun.

The yield-curve inversion also counts as one more reason the Federal Reserve is widely expected to cut rates when it meets in September. Fed policy makers are sceptical of the yield curve’s precision as a forecasting tool but, given their worries about their ability to combat a recession in a low-rate environment, they probably do not want to take any chances.

Considering how well American consumers are feeling, however, the Fed’s ounce of prevention might not cure much of anything.