In this troubled world economy, to every silver lining there seems to be a cloud. As fears for the safety of the global financial system have waned in the past two months, alarm about the health of the so-called real economy has waxed.

For most of that time, the fear has focused on the mess in the world's largest economy, of course. But the United States has steadfastly refused to collapse as predicted by the bears and we had yet more evidence of the American economy's resilience yesterday.

The Institute of Supply Management reported that its closely watched purchasing managers' index actually rose a little in May to a level that seems to be consistent with continuing, if unspectacular, growth in the overall economy of about 1.5 per cent to 2 per cent.

Since gross domestic product recorded a small increase in the first quarter, the signs are that, for the moment at least, the US continues to skirt an outright recession.

Yet as the odds on a slump have lengthened in the past few weeks, the other macroeconomic concern that has been nagging at markets for some time has got a lot more attention.

If the economy is not falling off a cliff, investors have surmised, then inflation, turbo-charged by rising fuel and food prices, must now be the threat.

It is this concern that seems to have been behind a steep sell-off in the US bond market. The yield on the ten-year treasury rose above 4 per cent last week for the first time this year.

The progress of this benchmark interest rate is actually a fairly good measure of the trade-off between fears about financial collapse/recession and inflation.

It hit 3.3 per cent on March 20, its lowest level in almost five years. That, of course, was the week in which Bear Stearns abruptly discovered its mortality and the entire global financial system had a broader near-death experience.

In the ten weeks since then, the ten-year yield has risen by more than 70 basis points, the steepest such increase since early 2006.

The shift in sentiment behind this movement has been amplified by changes in the official stance of US policy.

In late April, the Federal Reserve, in its rather convoluted way, suggested that it might be ready to pause after cutting short-term interest rates by 3.25 percentage points over the previous seven months.

Senior Fed policymakers have fanned out across the country in the past few weeks to issue warnings that inflation is looming as a threat to economic stability at least as large as that of recession.

When he gives a much-anticipated speech today, it is likely that Ben Bernanke, the Chairman, will reiterate those concerns.

What is behind these inflation worries?

On the face of it, the inflation data have actually improved in the past few weeks, even as the economy has strengthened. Consumer price inflation has been declining steadily for most of the past six months.

While producer prices in Britain appear to have taken off on an alarming trajectory, in America, despite the surge in energy and food prices, the pace of increase has actually slowed.

US producer price inflation peaked at an annual rate of 7.4 per cent in January and has dropped since then to 6.5 per cent in April, still uncomfortably high, but certainly moving in the right direction.

Meanwhile, inflation expectations in the US, again unlike the situation in the UK and Europe, have not leapt as expected. They remain slightly elevated but are certainly not in panic territory.

So what is going on? In part, the movement in market interest rates represents an encouraging sign of a tentative return to normality.

As bond yields have shot up since March, the yield curve - the gap between interest rates on long-dated assets and overnight rates - has steepened considerably. Since the curve has been inverted for much of the past year or two and since an inverted yield curve often sells recession or economic weakness, this return to normality ought to be welcome.

The other implication is less encouraging. While recent inflation indicators have been pointing in the right direction, these are inevitably backward-looking.

The outlook for inflation may be more troubling. Monetary policy works with a six to nine-month lag, so the full effect of the Fed's aggressive interest-rate cuts in the past nine months will begin to be felt only in the next year or so.

The criticism of the Fed from some quarters - that its rate-cutting campaign has been reckless and has stoked inflation - is mostly silly.

The US central bank was confronted with an extraordinary crisis in the past year and surely was right to throw as much ammunition at the threat of potential economic and financial collapse as it could.

Yet taking back those rate cuts will be a key priority when the immediate crisis is past. If and when it is clear that a full-blown recession has been avoided - and that might be quite soon - the Fed will need to act fast.

gerard.baker@thetimes.co.uk

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