Inflation is everywhere. Chinese manufacturing prices, broad commodity prices and consumer prices on goods ranging from fruit to freezers are climbing. Everywhere, that is, except in the bond market.
Five-year inflation breakevens—the difference between an ordinary five-year Treasury yield and an inflation-protected one—are around where they were three months ago. They have actually declined in the past month, when discussion of inflation has been most frenzied.
Nor are they particularly high by historical standards. At around 2.47% a year over the next five years, the inflation currently priced into the bond market is above its historical level for most of the low-inflation period following the 2008 financial crisis. But from 2004-2007, which was hardly a period of booming inflation, that level was entirely normal.
Analysts at Nordea note that bond yields are far out of step with their general relationship with inflation over the past 3½ decades. Core consumer price inflation of 3.8%, the level reported Thursday, has never been recorded in the post-1985 period alongside a 10-year bond yield of less than 6%. That indicates a fairly overwhelming belief on the part of investors that inflation is transitory.
How good is the bond market at predicting inflation? Joseph Gagnon, senior fellow at the Peterson Institute for International Economics, suggests that yields are far more closely correlated with past inflation than future inflation, though much of the data used predates the existence of inflation-protected bonds.