The 10-year Treasury yield just hit 5% for the first time since 2007 — is a 1970s-style ‘stagflation’ on the return?

The 10-year Treasury yield has recently reached a significant milestone, crossing the 5% mark for the first time since 2007. This rise follows a six-year surge from pandemic-era lows near 0.5%. The benchmark yield has climbed to this level due to a combination of factors, including high inflation and weak economic growth, a phenomenon that economists have referred to as "stagflation."

The last time the U.S. experienced this combination of trends was during the 1970s, during the Oil Crisis, a period marked by high inflation and weak economic growth.

Ray Dalio, a renowned investor, has noted that we are currently in a stagflationary period. However, the current situation is not as severe as the stagflation crisis of the 1970s. Inflation peaked at 14.8% in March 1980, compared to the current 3.4% rate, and unemployment was at 9% during the mid-decade oil shock, whereas it is currently around 4.1%.

Several factors have contributed to this change in the 10-year Treasury yield. During the pandemic, investors flocked to government debt as a safe haven, causing the yield to fall to 0.52% in 2020. As the economy reopened, the U.S. government deployed trillions in fiscal support, leading to an increase in spending. At the same time, factories, ports, and transportation networks struggled to keep up with the demand surge.

The Consumer Price Index began to climb quickly in 2021, prompting the Federal Reserve to acknowledge the inflation as elevated but also noting that many factors suggested the elevated readings might be temporary. However, by December 2021, the Federal Open Market Committee had changed its expectations, projecting a gradual increase in the federal funds rate to combat inflation.

The inflationary pressures were primarily driven by energy prices, which rose by 41.6% from a year earlier, and the Fed began raising rates in March 2022. By July 2023, the federal funds target range had reached 5.50%.