But only up to a point. Policy makers—perhaps especially Vice Chairman Richard Clarida—are well aware that the bond market does not give a completely clear reading of expectations, even among investors. It can be muddied by trader positioning, liquidity and other issues.
Flood Of Cash
Indeed, financial strategists say bond yields have declined in recent days partly because of short-covering by investors who had previously bet on a move in the opposite direction.
The sheer flood of cash coming into the money markets—a fact that’s been highlighted by unprecedented usage of the Fed’s reverse repurchase agreement facility—is also a factor potentially supporting demand for Treasuries. Even at these levels, U.S. government debt offers more yield than many alternatives, including sovereign bonds in Japan and Europe.
Clarida, who served as global strategic adviser at Pacific Investment Management Co. before joining the Fed, is a self-declared “big fan” of a new index of common inflation expectations developed by central bank staff.
The index comprises 21 different measures of inflation expectations, including some drawn from the bond market, and is published quarterly. Clarida said last month that the index was in line with the Fed’s goal of an average inflation rate of 2%.
Unlikely, Not Impossible
Randal Quarles, the Fed’s other vice chairman, has said that he puts more weight on consumer surveys of inflation expectations than on readings from the bond market.
“Ultimately what drives inflation is peoples’ expectations about what they’re going to need in the way of wages,” Quarles told a Brookings Institution webinar on May 26. “Those are imperfectly measured, obviously, but better measured by surveys rather than market-based measures.”
Policy makers will get a fresh reading of consumer inflation expectations on Friday, when the latest University of Michigan survey is due out. Last month, respondents said they expected inflation to average 4.6% in the coming 12 months, the highest in a decade, though they didn’t anticipate it remaining that high in subsequent years.
“At present, the growth in inflationary psychology is unlikely,” Richard Curtin, director of the survey, said in a May 28 report. “But it cannot be completely dismissed.”
—With assistance from Liz Capo McCormick and Luke McGrath.
This article was provided by Bloomberg News.