Inflation Probably Not Going Away Anytime Soon

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Markets went into a euphoric mood after the CPI report came in lighter than expected last week. While the numbers showed that the pace of inflation might be slowing, it remains just one measure of inflation, with other estimates showing something completely different. So despite the excitement about the disinflationary forces witnessed in the CPI, any conclusion may prove to be premature.

Market-based inflation expectations have plunged since the beginning of November and fell further after the CPI report. But consumer-based inflation expectations have been on the rise, based on surveys from the University of Michigan and the NY Fed .

Market-Based Inflation Expectations May Be Heading the Wrong Way

Since the beginning of November, 5-year breakeven inflation rates have plunged from around 2.7% to about 2.35%. That is a significant drop in a short period. It also makes one wonder if the market has gotten ahead of itself on how quickly it sees inflation falling.

5-Year Breakeven Inflation Rate

As market-based inflation expectations fall, consumer-based inflation expectations are rising. That last part may be the most important.

The shift in consumer-based inflation expectations follows a consistent trend of falling over the past few months. The latest data from the NY Fed shows that three years ahead, expected inflation rates have risen to 3.11% from a low of 2.76% in August. Meanwhile, the University of Michigan survey sees inflation rising at 3% on a 5 to 10-year time horizon from a low of 2.7% in September.

UMich 5-10 Year Vs. NY Fed 3-Year Inflation Expectations

Consumer-Based Inflation May Be Leading the Way

These consumer-based inflation expectations could tell us that market-based inflation expectations are due to rise again. From comparing the data and looking at the University of Michigan and the NY Fed against market-based three and 5-year breakeven inflation expectations, it seems pretty clear that consumer inflation expectations bottomed before market-based expectations in late 2019 and early 2020 and peaked before market-based expectations in late 2021 and early 2022. The turn higher in the Michigan and NY Fed surveys could tell us where market-based expectations are heading.

UMich, NY Fed, Market 3 and 5-year Breakeven Inflation Expectations

Corporate Impacts

The reason is that consumers are feeling the effects of rising prices firsthand. Target (NYSE: TGT ) recently reported very weak quarterly results , causing the stock to plunge. The company noted that sales and profits weakened towards the end of the quarter as rising prices and interest rates impacted shoppers. Meanwhile, Walmart (NYSE: WMT ) raised its outlook for the year as it attracted more high-income shoppers looking to offset the cost of rising prices elsewhere.

Based on some of this anecdotal evidence, the eutrophic nature of the market following that cooler-than-expected CPI was not only too early but maybe entirely wrong. The market may soon find that its view on the pace of inflation slowing needs to be revised and that it may find over time that inflation tends to travel in waves, which means periods where it rises, followed by periods where it falls.


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