Investors Signal Concerns that Higher Inflation Will Persist

October 21, 2021

A closely-watched gauge of investors’ inflation expectations is at its highest level in nearly a decade. This week, the metric, known as the 10-year break-even rate, signaled that over the next decade investors expect the consumer-price index to rise by an annual average of 2.64%. That is the highest level since 2012.

The Wall Street Journal explains that the break-even rate is based on the difference between the yields of normal Treasury bonds and the yields of Treasury inflation-protected securities, or TIPS. TIPS investors can “break-even,” earning as much as holders of normal Treasuries if the annual inflation rate matches the creak-even rate over the life of the bond.

A climbing break-even rate indicates that investors believe inflation will be more severe and longer-lasting. Averaging 2.6% inflation over the next decade would be much higher than the 1.8% average in the decade before the pandemic and well above the Fed’s 2% target.

The signal investors are sending is contrary to the expectations of many economists and analysts who argue that inflationary pressure is likely to moderate in the coming months as supply-chain disruptions are sorted out and supply and demand return to equilibrium.

The Wall Street Journal cites analysts who argue that the climbing break-even rate is more indicative of uncertainty in the inflation outlook rather than a serious cause for concern in and of itself. An alternate metric of gauging inflation by comparing yield differentials between normal and inflation-protected securities suggests that inflation will average 2.8% over the next five years before falling to an average of 2% for the following decade. 

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