Yield Curve Becomes Steepest in 9 Years
By Lee Hyo-sik
Staff Reporter
Conventional economic theories tell us that when the gap between long-term and short-term bond yields widens, market interest rates will increase in the near future in expectation of more robust economic activity and higher inflation.
Korea's yield curve, a line that plots the return from bonds of the same quality, but different maturities, steepened as the difference between short- and long-term bond yields increased to 2.35 percent in the final quarters of 2009, up from 2.33 percent in the third quarter and 2.01 percent in the second quarter.
It was the highest level since the third quarter of 2000 when it stood at 2.8 percent. The yield curve steepens when returns on shorter-maturity notes fall, those on longer-dated bonds rise, or both happen simultaneously.
In Korea, a three-year maturity state bond yield is used for long-term return and a call rate, which is widely used in short-term transactions among banks, is regarded as short-term yield.
With this yield curve, an indicator of future economic conditions, hitting a nine-year high, many would think that the Korean economy will continue to improve down the road. But this time, a rise in the difference between long-term and short-term yields may not imply a solid economic recovery.
Analysts say that the ongoing normal-shaped yield curve is not attributed to the higher longer-term bond return, which would indicate more brisk economic activities, because it has remained largely lower.
But the rising gap in bond yields is largely attributed to Bank of Korea's (BOK) record-low policy interest rate of 2 percent, which has kept the short-term bond yield at the bottom.
``The yield gap typically acts as an indicator of future economic conditions. The increasing yield difference means that the economy will head upward in the future, pushing up the interest rate higher, as more production, investment and consumption will raise consumer prices,'' LG Economic Research Institute economist Chung Sung-tai said.
Changes in the three-year maturity state bond yield reflects output growth, inflation and other economic conditions in the future as the bond itself has no risk at all because of the government's payment guarantee. When its yield goes up, it means the economy will expand and prices of goods and services will be higher.
On the other hand, the short-term bond yield is largely affected by the central bank's key policy rate, which has remained at an all-time low of 2 percent.
``I do not think the widening gap between long-term and short-term bond yields is caused by the rising state bond yield, which would point to more brisk business activities. The rising difference is largely due to the record low short-term bond yield,'' Chung said.