Relative to the Bloomberg consensus, the CPI unexpectedly rose 10 basis points (also higher than the Cleveland Fed’s near-term forecast). How are financial markets reacting?
5-year breakeven point (not adjusted for inflation risk, liquidity premium) fell 5 basis points.
figure 1: The five-year inflation breakeven is calculated as the 5-year Treasury yield minus the TIPS yield (blue, left scale) and the 10-year three-month spread (brown, right scale), both in %. Source: Federal Reserve Board via FRED, and author’s calculations.
Has little effect on terminology propagation. 5-year 5-year forward expected inflation also declined.
figure 1: 5-year 5-year inflation rate in % (blue). Source: Federal Reserve Board via FRED, author’s calculations.
Longer-term inflation expectations appear to be well anchored and are almost the same as in mid-January 2021.
Finally, in a world of sticky prices with Taylor’s rule, one would expect inflation surprises to cause the dollar to appreciate (e.g. Clarida (2007)). Instead, the dollar was flat.
image 3: USD/EUR exchange rate (blue), up is the depreciation of the dollar. Source: Federal Reserve Board via FRED, Pacific Exchange Services.
To me, that means the market wasn’t particularly surprised by the CPI numbers despite the headlines about record y/y inflation.It made a lot of sense to me once I realized Inflation continued to decline in December.
