An inflation predictor

Date posted: March 22, 2012

Although inflation doesn’t appear to be an issue now, some think it will be in the future. Is there anything we can look at to get an inkling of just where inflation may be headed? N.C. State University economist Mike Walden answers.

“And of course predicting inflation means it is a prediction , so it’s not a sure thing. It’s a guess. It’s an estimate. … And, of course, there are economists and others who sat down and specifically try to make forecasts for inflation. But there’s another financial number that people can look at to try to see predictions of inflation, and that is in long-term interest rates. When you’re making a long-term loan, you’re going to get paid with dollars in the future. It could be next year. It could be five years, 10 years, but it’s the future. Therefore, the lender needs to worry about inflation, and to the extent the lender thinks inflation is going to be higher, that interest rate’s going to have to be higher to account for — or compensate for — that higher inflation.

“So we can look at trends in long-term interest rates to get some inkling of what financial markets think is going to be future inflation rates. That is to say, if long-term interest rates are going up, we might fear that the financial markets are thinking inflation rates are going to be higher. And vice versa, if they’re going down.

“Now, fortunately, if we look today, we actually are optimistic about inflation, because long-term interest rates are almost at 50-year lows, and they have been trending down for a couple of years. So by this measure – which, of course, is not perfect — right now we don’t see any big fears in the financial markets that inflation is going to skyrocket higher in the near term.”

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