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Long-run inflation expectations

The Federal Reserve Bank of St. Louis recently held its 25th annual Homer Jones Memorial Lecture. This year’s Lecture was given by University of Chicago Professor Robert E. Lucas, recipient of the 1995 Nobel Prize in Economics. Professor Lucas emphasized that, over long periods of time, inflation depends importantly on money growth. Countries with high inflation have invariably experienced rapid rates of money growth. So, some economic analysts, financial market participants, and ordinary citizens are worried that the more than fourfold increase in the monetary base since October 2008 (from $895 billion to $3,885 billion) will lead to much higher rates of inflation. At this point, though, key measures of inflation—as measured by the year-to-year percent change in the CPI and PCE price indexes—continue to track below the Fed’s 2 percent inflation target. However, since the Fed’s actions tend to affect the economy with a lag, expectations about future inflation are important in setting prices today: If the public expects higher inflation in the future, then it’s more likely inflation will begin to rise in the present. There are many ways to measure inflation expectations, including forecasts from economic models and surveys of consumers and businesses. One well-known measure of inflation expectations is the simple difference between yields on nominal Treasury securities and yields on inflation-adjusted Treasury securities. These series are available in FRED. This chart plots the difference between yields on 10-year Treasury securities and 10-year inflation-protected securities (TIPS); this difference provides a measure of the financial market’s expected average inflation rate over the next 10 years. A few observations from the chart are worth noting. First, relative to the period from 2004 to mid-2008, long-run inflation expectations have been more volatile since the onset of the financial crisis in August 2008. Second, inflation expectations fell sharply during the financial crisis and shortly thereafter but quickly rebounded. Finally, while more volatile, long-run inflation expectations, on average, have been slightly lower after the financial crisis than before the crisis. Bottom line: Financial markets believe that the Federal Reserve will not allow inflation to accelerate, despite the huge increase in the monetary base.

How this graph was created: First, plot the 10-Year Treasury Constant Maturity Index, daily. Second, adjust the sample to 2004-01-02. Third, click the “Add Data Series” arrow. In the search box, search for “10-Year Treasury Inflation Indexed Security.” Choose the daily series. Next, click the “Modify existing series” button and then click on “Add Series.” Finally, to plot the difference between the two series, click on the “Edit Data Series” button. Next click on “Create your own data transformation.” In the formula box, type “a-b” and then click “Apply.”

Suggested by Kevin Kliesen

View on FRED, series used in this post: DFII10, DGS10

Loan delinquency

It should surprise no one that delinquency rates on credit cards and home mortgages rose during the past recession. The delinquency rate for credit cards has always been higher than the rate for mortgages…until now. In fact, the credit card delinquency rate is at its lowest recorded point since it has been tracked. Why is this special? Credit card debt isn’t backed by any asset, as mortgage debt is. So, credit card delinquency is expected to be higher, which is why interest rates for credit card debt are higher than rates for mortgage debt.

How this graph was created: After finding the first series, add the second series, then choose “Bar” in the graph settings.

Suggested by Christian Zimmermann

View on FRED, series used in this post: DRCCLACBS, DRSFRMACBS

Price indexes for policy

What price index should monetary policymakers use to track the economy? For starters, it should have three characteristics: 1) encompass a substantial part of the economy; 2) be available without delay; 3) contain little noise from short-lived price fluctuations. Looking at the four prime candidates, there is no clear front-runner. From the top down: the CPI covers only consumption and includes highly volatile food and energy prices, but it is available quickly. The CPI less food and energy looks more stable and informative, but misses part of consumption. Personal consumption expenditures (drawn from the national income and product statistics) is available only at a quarterly frequency and after a delay of several months, a drawback that pertains also to the GDP deflator. The GDP deflator, though, covers all the economy. Which one to choose, then? Use the slide rule to look at different time periods to form an opinion.

How this graph was created: Select the four series, then apply Y-Axis Position to the right for the last two, as they have a different base year.

Suggested by Christian Zimmermann

View on FRED, series used in this post: CPIAUCSL, CPILFESL, GDPDEF, PCEPI


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