Long Term Perspective
The spread between the 10-year Treasury note yield and the federal funds rate averaged -182 basis points in the 1980s. Interest rates were generally high during the period, and so was inflation. In the 1990s, the spread turned around so that the 10-year note yield surpassed the funds rate by 150 basis points on average.

Between 2000 and 2005, the spread between the 10-year note and the federal funds rate averaged 179 basis points. The spread averaged 292 basis points in 2004, but this average fell sharply in 2005 to 108 basis points.

Short Term Perspective
While yields on long-term securities generally move in tandem with changes in short term securities, long-term yields may not move by the same magnitude. In 2004 and 2005, yields on long-term securities, such as the 10-year note, did not move in tandem with rate hikes orchestrated by the Federal Reserve. Indeed, 10-year note yields were higher before the first rate hike in June 2004 than in the months after when the Fed raised the funds rate target at each FOMC meeting in 2004 and 2005.

Average yields on 10-year notes dropped 21 basis points in August to 4.88 percent. The fed funds rate target has now been raised 17 times and 425 basis points since June 2004, but the 10-year average yield has not increased by a similar magnitude. August's average yield was only 10 basis points above the average yield recorded in June 2004. Some analysts have suggested that U.S. Treasury yields are higher than in other countries, so that foreign demand for our securities is dampening yields here. Fed officials have also suggested that inflationary expectations are low. No one has developed the definitive answer yet. Historically, it was believed that a flattening yield curve - or an inverted yield curve -- signaled softer economic growth. Economists are not discounting the recession scenario entirely, although the majority believes that we might see slower economic growth rather than outright recession.