Line chart tracks the PCE core deflator (%, inflation data) and the market’s 5-year/5-year forward inflation rate (%, inflation expectation).
Y-axis: YoY change (%), x-axis: 2011 – 2022.
YoY change in the PCE core deflator and the market’s forward inflation rate differed at times by more than 1.5%, but the two actually intersected in mid-2016 just above 1.5% and since have more closely aligned. Except for brief and infrequent periods of intersection, the market’s 5-year/5-year forward inflation rate has consistently been higher. In 2019, both core deflator and inflation expectation remained in the 1.5% to 2.0% range. But by early 2020 the core deflator measure and the 5-year/5-year forward percentage had crossed again, with the core deflator just above 1% (late May 2020) and the 5-year measure over 1.5% (Q2 quarter end). Since then the core deflator had risen to over 1.3% (November 2020) and the five-year expectation had risen to near 2% by year-end. At the end of February 2021 the core deflator remained near 1.4% while the Q1 2021 five-year expectation stood at about 2.3%. By the end of February 2022 the core deflator had risen sharply to over 5.3% and the inflation expectation stood at about 2.2%. By the end of May 2022, the core deflator was near 4.7% and the inflation expectation (June 30) was 2.0. A yellow circle draws attention to the sharp rise in inflation.
Sources: Bloomberg and Wells Fargo Investment Institute. Market’s 5-year/5-year forward inflation rate: monthly data from January 1, 2011 to June 30, 2022. PCE core deflator: monthly data from January 1, 2011 to May 31, 2022. PCE deflators (or personal consumption expenditure deflators) track overall price changes for goods and services purchased by consumers. Deflators are calculated by dividing the appropriate nominal series by the corresponding real series and multiplying by 100. The market’s 5-year/5-year forward inflation rate is a common measure that is used by central banks and dealers to look at the market’s future inflation expectations. Fed = Federal Reserve. PCE = personal consumption expenditures.
- Investors’ near-term inflation expectations have fallen behind actual inflation, likely a sign that the market is unprepared for persistently high inflation.
- Longer-term inflation expectations remain subdued by comparison despite recent increases, a sign that investors and households view recent increases largely as the product of shocks likely to dissipate in coming months.