By Steven K. Beckner

(MNI) – Researchers at the Federal Reserve Bank of Cleveland have
developed a new measure of inflation expectations which they say
provides advantages over other commonly used measures.

Researchers Joseph Haubrich and Timothy Bianco say that inflation
expectations are “still well anchored,” but warn against “complacency”
among Fed policymakers in a Cleveland Fed “Economic Commentary” posted
Monday.

The Cleveland Fed inflation expectations gauge, which will be
updated monthly, looks at different bond maturities, producing a yield
curve of expected inflation. The Bank says “it explicitly estimates the
inflation risk premium, providing a piece of information not readily
available from surveys or from the ‘break-even’ rate derived from
Treasury inflation protected securities (TIPS).”

The Cleveland Fed measure is adjusted for the inflation risk
premium, and does not count liquidity differences as inflation
expectations. It aims to remove short-term influences on the price level
that are not under the control of the monetary authority, such as oil
price shocks, unemployment effects, and shifts in the demand for money.

According to the latest estimates from the Cleveland Fed model,
long-term inflation expectations — 1.84%, on average, over the next 10
years — are still well anchored.

“Inflation expectations can provide a clue to people’s behavior,
and they can also act as an early warning system for inflation,” the
authors write. “An early increase in inflationary expectations can serve
as a wake-up call to the central bank to reassess whether its policy
will keep inflation in check.”

Haubrich and Bianco write that their inflation expectation measures
“don’t indicate a current problem for the United States.”

“But watching expectations is not a complete solution to the
problem, and it should not induce complacency,” they warn. “Expectations
take future monetary policy into accountso expectations of inflation
may remain low today because people expect a vigorous Fed response in
the near future.”

“Understanding expectations is important, but it remains only one
gauge on the central banker’s dashboard,” they add.

** Market News International **

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