Inflation expectations and inflation realities: a comparison of the Treasury Breakeven Inflation curve and the Consumer Price Index before, during, and after the Great Recession

Abstract

This article examines the extent to which market-based inflation expectations overshot or undershot actual inflation before, during, and after the Great Recession of 2007–09. Specifically, the article compares the U.S. Treasury Breakeven Inflation (TBI) curve, a unique measure of market-based inflation expectations, with the U.S. city-average, all-items Consumer Price Index for All Urban Consumers (CPI-U), a measure of actual inflation. Covering the 175 months from July 2003 through January 2018, the analysis yields three main findings. First, market-based inflation expectations, as measured by the TBI curve, reasonably approximated CPI-U (realized) inflation in the years before, during, and after the recession. Second, estimates of inflation expectations overshot actual inflation for short-term maturity horizons and undershot it for long-term maturity horizons. Third, inflation expectations approximated inflation reality more precisely for long-term rates than for short-term rates.