A yield curve is a graph that plots interest rates at a certain point in time for different length bonds (of equal credit quality). The most common yield curve compares the 3-month, 2-year, 10-year and 30-year US Treasury debt. The rates serve as a guide for other rates, such as mortgage rates or bank lending rates.
The ideal yield curve (normal yield curve) is for the short-term rates to be lower than the long-term rates since there is more risk in buying a 30-year bond as opposed to a 3-month bond. The shape of this graph is important in looking at future interest rate changes and economic activity. An inverted yield curve occurs when long-term bonds earn a lower interest rate than short-term bonds. Analysts tend to follow this curve very closely since this inverted yield curve has often been suggested to be one of a number of predictors to signal an upcoming economic recession.
