An inverted yield curve is a fairly strong leading indicator for an impeding economic downturn. This is a very simple concept: the short term interest rates should emphatically not be higher than those in the more distant future, primarily because the risk (i.e., possibility of default) is greater in the long run, and the actual yield on very short-term securities is not much affected by rate fluctuations.

Source: Financial Times online, November 13, 2006

Sure, the economy is doing OK, but citing diminished productivity as the lesser of two evils, the Fed seems poised to raise rates to combat inflation: “My current assessment is that the risk of inflation remaining too high is greater than the risk of growth being too low,” [Chicago Fed President] Moskow said.

Bloomberg news notes that “The Fed is trying to slow inflation without damaging an economy that expanded 1.6 percent in the third quarter, the smallest increase in gross domestic product since 2003.”

Perhaps, if we did a little less money-printing, which as Bernanke notes, costs essentially nothing, and “[raises] the prices in dollars of those goods and services,” and forced a little responsibility upon the politicians charged with the administration of national finance, we’d have a lot less to worry about.
Inflation breeds “too much inflation” which in turn creates the need for monetary contraction and it’s partner in crime: the recession.

Of course, it’s not a bulletproof leading indicator, but it’s historically been pretty solid.