Inverted Yield Curve
Definition
An inverted yield curve occurs when short-term yields exceed long-term yields — for example, the 2-year Treasury yielding more than the 10-year. It typically happens when the central bank has pushed short rates high to fight inflation while the market expects rates to be cut later as growth slows.
Inversion is the classic bond-market recession signal: in the US, inversions of measures like the 2s10s or 3-month/10-year spread have historically preceded most recessions, though with variable lags and occasional false or debated signals. The standard interview framing is 'the market expects future short rates to be lower than today's,' usually because it expects easing in response to weaker growth.
Mechanically, inversion also squeezes anyone who borrows short and lends long — notably banks — because their funding cost rises relative to the yield on longer-dated assets.
Why interviewers ask
This is a favorite 'do you follow markets?' question: interviewers ask what an inverted curve means, why it predicts recessions, and what it does to bank net interest margins. A crisp answer — expectations of future rate cuts, historical recession lead times, pressure on borrow-short/lend-long business models — signals genuine market awareness. Avoid claiming inversion guarantees a recession.
Related terms
Interviews don't test definitions — they test recall under pressure.
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