U.S. Growth: Lower-flation and the Fed

Mid Week Bond Update

U.S. Growth: Lower-flation and the Fed

Inflation expectations in the U.S. remain stubbornly low.

When the Fed considers inflation, its most favored measure is the Core PCE index, which for the 12 months ending in February and March came in at 1.7% and 1.6%, respectively – well below the Fed's 2% inflation target.

Nothing new there: inflation has stayed above the 2% target range only twice in the past decade – from December 2011 through April 2012, and in July 2018.  Over the years, the Fed has called persistently low inflation puzzling and troubling.

Commenting on those figures, Fed Chair Powell referred to the influence of "transitory" conditions. Yet neither consumers nor financial markets appear convinced. A consumer survey conducted by the University of Michigan found the median expectation for inflation over the next 5- to 10-year period to be 2.3%, the lowest in nearly 20 years. On the markets side, the "forward breakeven" inflation rate in five years now stands1 at 2.0%, also reflecting skepticism on the part of markets.  As does the futures market for Fed Funds, which now trades as if the likelihood of the Fed cutting its target rates will be nearly 60% by the FOMC's end-of-year meeting on December10-11, 2019.

In discussing the issue, Brandywine Global suggests that if the Fed, in the face of continued record lows in unemployment, sends even more dovish signals than it did in January, that signal could be enough to shift expectations.  But for now, a belief in rising inflation would clearly be contrarian.

Inflation Expectations: Survey and Markets

Chart: Inflation Expectations

Chart courtesy of Brandywine Global. Source: Bloomberg, as of 4/30/2019.  Past performance is no guarantee of future results. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

On the rise: German 10-Year Bunds

The closing price for 10-year German Bunds due February 2029 rose to 102.8392, driving the nominal yield to negative ‑0.040%, after rising above zero since April 26.  The immediate cause appears to be the latest downward revision to Germany's estimated growth for the full year 2019 – this time, from the official European Commission (EC) economists. The EC forecast now stands at 0.5% growth, down from 1.1%.  The aggregate Euro area (i.e., Eurozone) forecast was also cut, from 1.3% to 1.1%; for Italy, the forecast dropped from 0.2% to 0.1%. The EC's statement accompanying this set of revisions described the downside risk to the region's outlook as "prominent".

On the slide: Turkish Lira

Over the past five days, Turkey's currency has fallen over -3% to about 6.16 to the U.S. dollar, after spending the previous week in the range of 5.9 to 5.96.

The proximate reason was the rekindling of political uncertainty in the aftermath of the municipal elections for Istanbul, the country's commercial center.  After the opposition Republican People's Party (CHP) candidate Ekrem Imamoglu won a narrow victory on March 31 and was sworn in as mayor, Turkey's national election board cancelled the results of the election, claiming the existence of fraud.  The election board is dominated by members of President Erdogan's Justice and Development Party (AKP), which lost the Istanbul election by a narrow margin. The new vote is scheduled for June 23; the government is expected to appoint a caretaker government before the new elections take place.


1 Source: Bloomberg, May 7, 2019, 1:45 PM ET. Represented by the 5-year / 5-year forward breakeven inflation rate.

2 Source: Bloomberg, May 7, 2019, 2:00 PM ET



The Federal Funds rate (fed funds rate, fed funds target rate or intended federal funds rate) is a target interest rate that is set by the FOMC for implementing U.S. monetary policies. It is the interest rate that banks with excess reserves at a U.S. Federal Reserve district bank charge other banks that need overnight loans.

The Federal Open Market Committee (FOMC) is a policy-making body of the Federal Reserve System (Fed), which is responsible for the formulation of a policy designed to promote economic growth, full employment, stable prices, and a sustainable pattern of international trade and payments.

The 5-year, 5-year forward breakeven inflation rate is a measure of expected inflation derived from "nominal" Treasury securities and their "real" counterparts—inflation-protected TIPS securities.

An implied breakeven rate is a measure derived from comparing returns of two classes of securities whose value depends on the same factor, such as inflation or default rates.

The Personal Consumption Expenditures (PCE) Price Index is a measure of price changes in consumer goods and services; the measure includes data pertaining to durables, non-durables and services. This index takes consumers' changing consumption due to prices into account, whereas the Consumer Price Index uses a fixed basket of goods with weightings that do not change over time. Core PCE excludes food & energy prices.

Bunds” refers to bonds issued by Germany's federal government. Bunds are available in 10- and 30-year maturities.



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