Understanding Yield Curves and Economic Indicators

Hard Term Structure Dynamics Yield Curve Construction

In a recent analysis of the term structure of interest rates, a financial analyst examines the market conditions and the corresponding yield curves of various government bonds. The analyst observes a steep yield curve and comments that it typically reflects a strong economic outlook and expectations of rising interest rates. However, she also notes that shifts in the yield curve can occur due to changes in investor sentiment, monetary policy, and inflation expectations.

Given the information above, which of the following statements regarding the construction of yield curves and their interpretation is INCORRECT?

A steep yield curve suggests that long-term interest rates are significantly higher than short-term rates, indicating economic growth expectations.

An inverted yield curve indicates that short-term interest rates are higher than long-term rates, often signaling a potential recession.

A flat yield curve implies that investors expect stable economic conditions and little change in interest rates.

Hint

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