Inflation: Causes and Outlook, Inflationary Regimes and Implications

Making Sense of the Present Inflation Environment

Inflation, deflation, reflation, disinflation, stagflation… The type of inflationary regime that an economy is operating within may have considerable influence on the way asset classes perform, and the correlations between those asset classes.  But what are the drivers of inflation, and what is the present day outlook for inflation itself?

As well as examining the inflation outlook, the papers below explore the drivers of inflation, real interest rates and stock/bond correlations - all helping you to piece together a more holistic understanding of inflation regimes and their investment implications.

FEATURED PAPER

The Road Back to the 70s: Implications for Investors (Amundi AM, Jun 2019)

For compliance reasons, this paper is NOT accessible in the United States

Amundi provides investors with portfolio construction and asset allocation guidelines that vary according to different inflationary regimes. The particular inflationary environment alters return expectations and correlations for a variety of asset classes.

INFLATION: CAUSES AND OUTLOOK

The causal link between demography and inflation (BIS, 2018)

For compliance reasons, this paper is NOT accessible in the United States

Contrary to the prevailing tide, the authors provide evidence that an aging global population is associated with higher real interest rates, higher inflation and higher wage growth. The paper suggests that we should expect an era of rising inflation, reversing a trend that has been effect for several decades.

July's Rich Pickings podcast: The spectre of inflation (Fidelity Intl, Jul 2019)

For compliance reasons, this paper is only accessible in the UK & Europe

In this edition of Fidelity's Rick Pickings podcast, David Buckle, Head of Investment Solutions Design, states that a reflationary environment may be troublesome and detrimental to both sides of a balanced portfolio.

Why Lower Inflation Is Here to Stay (State Street blog, Sep 2018)

Oddly enough, expectations of Inflation have recently had a larger effect upon inflation than economic factors such as unemployment. This may have implications for asset allocators and investors.

The Fiscal Causes of Inflation (John Cochrane, 2019)

This quantitative paper from John Cochrane measures the fiscal roots of inflation, evaluating future surpluses relative to the discount rate used to value government bonds.

Demographics, Inflation and Asset Prices (Goldman Sachs AM, 2018)

The authors of this report describe the ways in which demographics and inflation relate to asset prices, presenting their own demography-based predictions for major economies.

MONETARY POLICY AND THE US FEDERAL RESERVE

The Fed’s About-Face Complete Amid Dissent (PGIM Fixed Income, Aug 2019)

The Fed's recent rate cut was slightly disappointing to market practitioners who had hoped for additional stimulus. Will a Fed that's less dovish than expected mean lower inflation and growth in the long run?

Central Bank Watcher: Time to Deliver (Robeco, Aug 2019)

Robeco's monthly report looks at the actions of central banks across the globe, including their expectations for inflation, the term premium, and economic growth.

Rethinking the Fed's 2 percent inflation target (Brookings Institution, 2018)

In this paper, the authors make the case for a new monetary policy framework. They argue that a move away from the current inflation target of 2% would allow the U.S. economy to have higher levels of output and employment over time.

Monetary Policy in a Low Interest Rate World (US Federal Reserve, 2017)

This paper models the effects of traditional monetary policy when nominal interest rates are at or near the effective lower bound.

THE EQUILIBRIUM RATE OF INTEREST

R*, Rock Star or Dark Star? (QMA, Oct 2018)

QMA discusses how the equilibrium real interest rate could foretell whether recent turbulence implies a Fed miscalculation or merely an adjustment to a higher rate environment.

Measuring the Natural Rate of Interest (John Williams of FRBSF, Dec 2016)

Over the past decade, in the US, Canada, the UK, and Europe, estimations of the natural rate of interest have dramatically declined, as has GDP growth. This paper by John Williams of the Federal Reserve Bank of San Francisco explores these relationships further.

On Falling Neutral Real Rates, Fiscal Policy, and the Risk of Secular Stagnation (Brookings Institution, 2019)

This Brookings Institution paper suggests that in order for future employment and inflation targets to be achieved, fiscal policymakers may have to tolerate additional budget deficits and unconventional monetary policy, amongst other measures.

Interest Rates Under Falling Stars (FRBSF, 2019)

For compliance reasons, this paper is only accessible in the United States

When examining the term structure of interest rates and attempting to predict treasury yields and future bond returns, analysts may be better served by not treating variables such as trend inflation and the equilibrium real interest rate as constants. The authors introduce a new model for understanding interest rates and estimating the term premium.

Eight centuries of the risk-free rate: bond market reversals from the Venetians to the ‘VaR shock’ (BoE, 2018)

After guiding the reader through 800 years of bull and bear markets in fixed income, the author suggests that investors could draw lessons from an examination of the inflation dynamics that led to the 1965-70 sell-off in US bond markets.

STOCK/BOND CORRELATIONS AND INFLATION REGIMES

Stock/Bond Correlations: Relationship Troubles (UBS AM, Feb 2018)

UBS examines the long-term relationship between bonds and equities and the drivers of correlations between the two main asset classes.

Stocks/Bonds: The Fire and Ice Debate (Man Group, March 2017)

More most of recorded history, the long-term correlation between equities and bonds has consistently been a positive one. But for the last 20 years, the past relationship appears to have disappeared. Man Group explores the reasons behind this.

A Century of Stock-Bond Correlations (RBA, 2014)

Authors from the Reserve Bank of Australia examine the correlation between US Treasury yields and US equity prices. The paper explores why the correlation between these core asset classes, which held relatively steady for a century, appears to have changed since the late 1990s.