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Friday, February 25th, 2011
the great inflation game

After surging ahead day after day, some commodities have shown a little weakness of late.  But they are still up significantly, including those in the food and energy categories, which have the greatest direct impact on the consumer.

One way to gauge what the market thinks will happen to inflation comes from looking at the breakeven rate between Treasuries and TIPS (Treasury Inflation-Protected Securities).  On a ten-year basis, it’s now at 2.42.  So a rough way of thinking about it is that if the CPI goes up less than that on average over that time, you’re better off buying the ten-year notes at 3.47%.  If inflation is higher, the TIPS will outperform.

As for policy makers that have been intent on getting inflation expectations up, it looks like the heavy lifting is done.  The breakeven rate is well above the average for the period and right in the middle of the stable channel that held from late 2003 into 2008.  (Chart:  Bloomberg terminal.)