Easy monetary policies from the U.S. Federal Reserve and other central banks have led some people to speculate about the possible onset of inflation. However, the long-term trends have shown no signs of an impending rise in inflation yet.
Here are eight early warning inflationary signs to watch for:
1 – The five year/five year forward inflation breakeven rate.
Market prices are a good indicator of inflation expectations. The breakeven rate is the difference between nominal interest rates on U.S. Treasuries and real interest rates on Treasury Inflation-Protected Securities. Since 2000, the breakeven has averaged 2.7%. If it rose above 3.3%, it would be in the Red Zone.
2 – Long-term inflation expectations from the University of Michigan consumer survey.
This monthly consumer confidence survey captures forecasts made by ordinary households. Since 2000, it has maintained a broadly stable average of 2.9%. It hasn’t had a reading of 3.2% or higher for more than five consecutive months since 1995. Red zone: 3.6%.
3 – Employment Cost Index.
For inflation to become entrenched, wages would need to rise. The employment cost index recently has been below 2%. It would likely need to rise to 3.5% - 4.25% to arouse concern. Red zone: 4.25%.
4 – The Fed’s long-run unemployment rate forecast.
The Fed’s estimated long-run unemployment rate is considered a neutral jobless rate, or the level of joblessness consistent with stable inflation. If that rate were to creep up, it could be a sign that the economy has less spare capacity than previously. With the unemployment rate falling slowly and still elevated by historical standards, the Fed’s long-run jobless rate projection of 5.2% to 6.0% indicates that the labor market continues to have significant spare capacity.
5 – The ISM non-manufacturing survey prices component.
Inflation in services reflects local conditions more closely than the manufacturing gauge. That makes it a good indicator of changes in core inflation. A large and sustained increase would be cause for concern, but there has been no sign of that.
6 – Overall commodity price indices.
The broad measure of commodity prices is a better indicator of inflation than individual commodities prices. Currently, commodity indices show no reason for concern.
7 – Baltic Dry Index.
This indicator tracks global freight shipping costs, providing a good real-time gauge of trade activity, and the relationship between economic growth and available resources. After a sharp rise before the 2008-2009 financial crisis, this indicator has been very subdued relative to 2003-2008.
8 – Chinese renminbi.
As a major manufacturing exporter and commodity importer, China has played a key role in global inflation trends. A rise in China’s currency could indicate a general increase in inflationary pressures.
Although there is little sign of an immediate increase in inflation, paying close attention to these early indicators could provide investors with time to prepare or adjust should inflation become a rising concern.