How to predict inflation?
Hello everyone,
Breakeven rates are going up and up, especially 1-year rates. However, with long term rates still around 2%, I think the risk of inflation is negligible. But people's post-crisis savings, the decline in the labour force due to the demographic structure and the expansionary fiscal policy suggest that inflation should at least be observed in the future..
Now I was wondering if there is another way to predict inflation despite break-even rates and inflation-linked swaps. Is there a price for a particular good that can be linked to inflation? How would you predict inflation and what do you think, will there be inflation in the long run future?
Thanks in advance and have a nice day!
With much difficulty.
Conventional inflation forecasting in a developed economy typically takes past inflation values and incorporates current economic variables (i.e. unemployment, capacity utilization etc). Less quantitative approaches would look at consumer/producer sentiment surveys and the like.
Given the Phillips curve (inflation vs unemployment) basically no longer holds (globalization, less unionized workforce etc) plus the traditional relationship between money supply, output and inflation also seemingly no longer holds, the theory behind conventional inflation forecasting tools has basically gone. Plus, there's growing sentiment that the conventional measure of "inflation" is outdated and should incorporate asset prices (which are reflecting the traditional money supply relationship).
Basically there isn't a single person in the entire world who can answer whether inflation as we know it will return, let alone when.
Edit: I saw you commented demographic decline as a driving force of inflation - it's actually the opposite (Japan is Exhibit A). Declining workforce -> declining output -> declining prices.
Thanks a lot, [balanceofpayments] !
Basically, I agree with your opinion. We would probably win the nobel prize if we can predict inflation at the moment.
But still I think it's interesting to share some thoughts about it. Especially since inflation wasn't a big thing for the past few years. At least not during my courses at university.
Just one remark about the demographic decline: My thoughts were that there will be to less qualified work force in the future. This would lead to higher loans. If the economies are not able to increase their productivity with the same speed, this could lead to inflation.
I'd argue that inflation has been prevalent in recent years, only the textbook definition of inflation (basket of goods) doesn't capture where prices are rising. Nobody would argue that the cost of living, at least in major cities, hasn't become exponentially higher over the last generation. Even saving is much more expensive now, given literally every asset class is priced at such a high multiple of earnings.
Re demographics: you're overthinking it. Just try and imagine a town experiencing an oil boom - say somewhere in the Dakotas or whatever. You suddenly have an influx of people renting all the property, filling up all the restaurants, basically straining all the town's resources. Compare that with another town which doesn't have much going for it and where all the young people leave as soon as they can. Which one do you think will experience higher price growth?
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