The researchers analysed government security yields with maturities of three months to 30 years for the period starting from the first quarter of 2011 to the first quarter of 2022.
The empirical investigation focussed on India’s pandemic experience. The slope of the yield curve steepened with the onset of pandemic-related policy easing, reversing after the recent policy tightening phase.
The researchers found that the declining level of the yield curve pointed to a contraction even before the data release in 2020-21.
“The yield curve is indicating an improvement in long-term growth prospects and an upshift in ex-ante inflation expectations. At the same time, the fact that the yield curve has become steeper and concave reconfirms expectations of tighter monetary policy in the period ahead,” the researchers said.
The results of the research are that of the authors from the RBI’s economic research department and do not reflect the views of the RBI itself, which the central bank has always maintained.
The government securities yield curve is widely regarded as a valuable predictor of future macroeconomic developments.
The research showed that in contrast to advanced economies, it is the level and curvature of the yield curve rather than its slope that contain useful information on market expectations about economic prospects and inflation expectations in India.
“The results from a yield-macro model indicate that the level and curvature of the yield curve have more information content on future macroeconomic outcomes than the slope. This finding contrasts with the received wisdom and the experience of other countries,” the paper said.
It found that the level of the yield curve has increased since 2021 after a steep decline during the pandemic. Furthermore, the yield curve is concave compared to 2019 levels, indicative of strengthening prospects for the recovery, higher inflation expectations and hence market expectations of front-loaded monetary policy normalisation.