Trusting the Fed on Inflation? Apparently.

In a press conference on Wednesday, Federal Reserve Chief Ben Bernanke attempted to convince consumers that inflation in the long-term won't be an issue. Read more about this in the full post by The Mess That Greenspan Made.

The Federal Reserve seems to have those they think matter most – consumers responding to surveys and the bond market – convinced that inflation over the long-term is not going to be a problem, one of the key points made by Fed Chief Ben Bernanke in Wednesday’s press conference. This report in the Wall Street Journal today takes up that issue and presents the key measures that economists at the central bank watch closely.

Long-term inflation-expectations, from consumers and from the bond market, remain subdued and are little changed from a year ago. They point to inflation that isn’t far above the average of the past decade, when inflation was historically low.

One rough gauge of future inflation expectations is the gap between yields on plain-vanilla Treasury bonds and Treasury inflation-protected securities of the same maturity.

One favorite such measure is the “five-year, five-year-forward” break-even rate, which measures inflation expectations starting five years from now and running five years from that date.

The Federal Reserve Bank of New York’s five year, five-year forward break-even rate estimate, widely acknowledged as the gold standard of such rates, was recently 3.02%, slightly below its level in November, when the Fed announced its $600 billion quantitative easing program, or QE2.
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A measure of long-term consumer inflation expectations echoes the message of the TIPS market. According to a monthly survey by the University of Michigan, consumers expect CPI inflation of just 2.9% in the next five years, according to a preliminary survey in April.

That long-term calm is in stark contrast to consumers’ short-term view, which sees inflation jumping 4.6% in the next year, the highest since August 2008, when oil prices were just off their highs near $150 a barrel.

Let’s hope that the Bernanke Fed is better at predicting the future path of consumer prices than they were at seeing into the future a few years ago and forecasting where home price might go and how credit markets and the banking system would hold up.

This blog post was republished with permission from The Mess That Greenspan Made.