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Is bright red inflation chilling? Three signs that show it.

Expectations for inflation are important to how quickly the Fed raises interest rates.

Frederick J. Brown / AFP via Getty Images

The good news about inflation is bubbling, despite the Federal Reserve raising interest rates and plunging stocks.

Data from the St. Louis Fed’s so-called break-even point on 10-year government bonds now show that the market is currently expected to average 2.86% inflation over the next 10 years.Consumer price index 8.5% annually March.

However, inflation has long been expected to slow.The logic is that demand will decrease as follows: Consumers use the surplus cash they have saved During the pandemic crisis Supply chain constraints are gradually relaxed.. The question is how rapidly the annual inflation rate will fall.

The latest data seems to be good. Inflation expectations, measured at the break-even point in 2010, seem to have peaked at 2.98% in late April. This was the highest price in 19 years, the third time during a pandemic, in the mid-’90s, and soon after.

This reflects that recent economic data did not generate much expectation that annual inflation would exceed an average of 2.98% over the next decade. That also makes sense. After all, the Federal Reserve is sticking to controlling inflation, revealing that it will raise short-term interest rates many more times from here to curb economic demand.

Expectations for inflation are important. Because if the public expects a sharp rise in prices, employees will demand higher wages, businesses will charge more, and workers will be forced to demand more money. is. Low expectations make the Fed’s job easier.

They are also important because they affect the speed (or slowness) of the Fed raising interest rates. The slower the rise in interest rates, the better for economic growth.
S & P 500,
And the general stock market.

The second signal is that actual inflation probably peaked, not expected inflation. Prices in the economy as a whole rose sharply in 2021 relative to 2020 levels, with a CPI increase of over 5% in the middle of the year. Prices were high a year ago, so year-on-year growth could be modest.

Historically, if the rise in the CPI peaks in a particular business cycle, it often means that 10-year inflation expectations also peak. CPI peaked in 2000, 2005, 2008, 2011 and 2018. Inflation expectations over the next 12 months fell four out of five in the next 12 months, according to Citigroup data.

Oil price peaks tell the same story. This year, West Texas Intermediate crude oil prices fell to $ 110 a barrel from the multi-year high of $ 130, which hit in early March. In 2008, 2011, 2013, and 2018, oil prices peaked for multiple years, with three of these four cases lowering inflation expectations over the next 12 months. ..

If inflation expectations really exceed, it should boost the stock market. This means that the Fed is less willing to raise rates than currently expected. Already this week, the Fed said it is unlikely to raise interest rates by an increment of 75 basis points, or one-hundredth of a percentage point, and is likely to leave a 25-50 basis point increase.

Equities are still under pressure as markets seek to measure the full extent of the future high interest rate impacts on the economy and earnings. However, the S & P 500 is finding a floor where buyers can intervene. The index has been repeatedly stable at around 4,070 this week. Friday ended at 4123.34.

Write to Jacob Sonnenshine at jacob.sonenshine@barrons.com

Is bright red inflation chilling? Three signs that show it.

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