Notwithstanding the 4% drop in the CRB index over the past 3 days led by crude, the impact of what the Fed announced last Thursday has been most pronounced on longer term inflation expectations. Today, the 5yr 5yr forward inflation breakeven index (measuring inflation expectations in 5 yrs for the following 5 yrs) is up 3 bps today to 3.03% and a close here would be the highest since August 2011. It’s up from 2.64% in late July right before Draghi made news and higher by 25 bps since the close last Wednesday. This index has only a 5 yr history but the high was 3.19% back in Apr ’11 when the Fed was 5 months into QE2. This is only one measure of market inflation expectations with TIPS being another but the no holds barred attitude of the Fed makes it worth watching now because if there one thing that throws the biggest wrench in the Fed’s grand experiment, its higher inflation. We have massive monetary inflation in the quantity of money currently with only a matter of when before it becomes consumer inflation.

Category: MacroNotes

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4 Responses to “It’s only one measure of inflation expectations but…”

  1. ukarlewitz says:

    I feel like we’ve had the QE-led inflation story for at least two years now. Aside from transient spikes, overall rates have remained reasonable. There’s no mystery that the Fed now wants slightly higher expectations to spur spending and lower ‘real’ rates

  2. uzer says:

    “overall rates have remained reasonable” says ukarlewitz

    unfortunately, food and energy inflation have been unreal. it’s a good thing most people have no use for either, otherwise their pocketbooks be hurting.

  3. the bankster says:

    5 and 10 year TIPS have existed since 1997, with both issued regularly since 2004. so with a little diligence you could have gone back longer than whatever your data source for 5×5 is (which i guess is a fed release or bloomberg), assuming you know how to calculate it. and i’m not sure what you mean by TIPS being another source of inflation expectations. TIPS, together with nominals, are used to get 5×5 forward rates. on their own they tell us nothing about inflation expectations.

    in any case, yeah, we should watch forwards cuz bond vigilantes have been sooooo accurate so far. we’ve already had 4 years of massive monetary inflation. and massive consumer inflation is always just around the corner. the markets, all of them, can barely see out 3 months, and you put faith in 5-year forwards? i’d bet on fed incompetence (or irrelevance) and buy the back up. if they knew what they were doing, then why are we here?

  4. “…if there one thing that throws the biggest wrench in the Fed’s grand experiment, its higher inflation.”

    I couldn’t disagree more. As the first commenter implied, higher inflation is exactly what we need now in order to:

    1. Push corporations and other entities sitting on giant piles of cash to start spending it (or else watch its value erode).

    2. Assist the consumer deleveraging by lowering the real value of their debt.

    All things being equal, I’d prefer that fiscal policy measures be addressing these issues, but Bernanke is right to cease waiting for that to occur. In fact, some of us would argue Bernanke could’ve stopped waiting a year ago, after the debt ceiling debacle told us what we needed to know regarding Washingtgon’s dealmaking capabilities.