Fed's Evans says have to be nervous about yield curve, but U.S. economy solid

HONG KONG (Reuters) – Chicago Federal Reserve Bank President Charles Evans said on Monday it was understandable for markets to be nervous when the yield curve flattened, though he was still confident about the U.S. economic growth outlook.

In what many see as a bad omen for the U.S. economy, yields on benchmark U.S. 10-year treasury notes fell further below three-month rates in Asia on Monday, an inversion that has in the past signaled the risk of economic recession.

The yield curve inverted on Friday for the first time since mid-2007.

Evans described the inversion as “pretty narrow”.

“We have to take into account that there’s been a secular decline in long-term interest rates,” Evans said in comments at the Credit Suisse Asian Investment Conference in Hong Kong, days after the Fed signaled an end to its tightening and abandoned plans for further rate hikes in 2019..

“Some of this is structural, having to do with lower trend growth, lower real interest rates,” he said. “I think, in that environment, it’s probably more natural that yield curves are somewhat flatter than they have been historically.”

On the sidelines of the conference, Evans told CNBC in an interview that he could understand why investors were more “watchful, waiting and looking,” adding the Fed was doing the same. But, he added, economic fundamentals were “good” and he expected growth to be around 2 percent this year.

“Your first reaction is gonna (be) ‘wow, this is less than what we had’ and I think this is missing the message.”

TIME TO PAUSE

On the monetary policy outlook, Evans said it was a good time for the U.S. central bank to pause and adopt a cautious stance, adding he did not expect any interest rate hikes until the second half of next year.

Softening his tone from a few months ago, Evans, who votes on interest rate policy this year, said monetary policy was neither accommodative, nor restrictive at this point.

“I see things impeding inflation a bit, and I want to see inflation get up. So my own path is not to expect a funds rate increase until next year, probably, the second half,” Evans said.

In January, he said the Fed could hike interest rates three times in 2019 assuming the U.S. economy remained reasonably strong.

Last week, the U.S. central bank left rates steady in a range of 2.25 percent to 2.5 percent. Fresh forecasts showed 11 of 17 Fed policymakers expected no rate change for the rest of the year, up from just two in December.

That unexpectedly dovish signal had financial markets quickly pricing in a rate cut next year.