Yield inversion, soft-landing and reverse currency wars

In News: The three economic terms have gained focus in the present global economic scenario.

• Many observers have pointed to an inversion of the US yield curve to argue that the US central bank will not be able to achieve a soft-landing for the economy.
• And yet, the US dollar continues to gain against all other currencies.
• In what is being seen as a reverse currency war, most central banks across the world are trying to raise their interest rates to counter the Fed’s actions and ensure their respective currency claws back value against the dollar.
• There are three key terms that one is likely to hear repeatedly in the coming days: Yield inversion, soft-landing and reverse currency war.

Bond yield curve inversion

• A yield curve illustrates the interest rates on bonds of increasing maturities.
• An inverted yield curve occurs when short-term debt instruments carry higher yields than long-term instruments of the same credit risk profile.
• Inverted yield curves are unusual since longer-term debt should carry greater risk and higher interest rates, so when they occur there are implications for consumers and investors alike.
• An inverted yield curve is one of the most reliable leading indicators of an impending recession.

Soft Landing

• A soft landing is a cyclical slowdown in economic growth that avoids recession.
• A soft landing is the goal of a central bank when it seeks to raise interest rates just enough to stop an economy from overheating and experiencing high inflation, without causing a severe downturn.
• Soft landing may also refer to a gradual, relatively painless slowdown in a particular industry or economic sector.
• But when the actions of the central bank bring about a recession, it is called a hard-landing.

Reverse Currency War

• A flip side of the US Fed’s action of aggressively raising interest rates is that more and more investors are rushing to invest money in the US.
• This, in turn, has made the dollar become stronger than all the other currencies.
• Every central bank is trying to figure out ways to counter the US Fed and raise interest rates themselves in order to ensure their currency doesn’t lose too much value against the dollar.
• That’s because a currency which is losing value to the dollar, on the other hand, finds that it is getting costlier to import crude oil and other commodities that are often traded in dollars.
• But raising the interest rate is not without its own risks. Just like in the US, higher interest rates will decrease the chances of a soft-landing for any other economy.

Source: Indian Express

Previous Year Question

Q.1) Which one of the following situations best reflects “Indirect Transfers” often talked about in media recently with reference to India? (2022)

1. An Indian company investing in a foreign enterprise and paying taxes to the foreign country on the profits arising out of its investment
2. A foreign company investing in India and paying taxes to the country of its base on the profits arising out of its investment
3. An Indian company purchases tangible assets in a foreign country and sells such assets after their value increases and transfers the proceeds to India
4. A foreign company transfers shares and such shares derive their substantial value from assets located in India

Q.2) India Government Bond Yields are influenced by which of the following? (2021)

1. Actions of the United States Federal Reserve.
2. Actions of the Reserve Bank of India.
3. Inflation and short-term interest rates.

Choose the correct code:

1. 1 and 2 only
2. 2 Only
3. 3 Only
4. 1, 2 and 3