"Mark my words, it's just around the corner, you'll see!"

In his latest blog posting, Paul Krugman unfortunately continues to bang his head against the wall. Despite the years of evidence to the contrary, Krugman cites another example of a "serious thinker" prescribing a policy cure based on reasoning that is both flawed and, based on recent history, wrong.

It's more of what we've been hearing for many years now: that QE is undoubtedly inflationary and the Fed needs to preemptively raise interest rates to get ahead of looming runaway inflation. How many times have you heard a right-wing, Keynesian-hating friend utter the words, "Mark my words, it's just around the corner, you'll see!" I can't tell you how many times I've heard this said, that hyper-inflation is upon us (Weimar Republic!) and although we may not see it yet, it will appear fast and furious from out of nowhere -- as if it was an evil force in a horror movie. Is this any way to conduct policy, not based on evidence but rather fear of the boogeyman?

Krugman includes a chart showing what we've been accustomed to seeing: inflation below 2% for nearly the entire post-2008 period. But you don't need to rely on just one CPI chart, as many naysayers often argue key items (bread, eggs, gas, home prices, etc.) are being excluded from the proverbial basket and thus distorting the "true" picture. Never mind that various different versions of a representative basket of goods has typically depicted the same result: very modest inflation.

I've always liked to keep an eye on data from the Billion Prices Project@MIT as another check on inflation. The BPP collects prices on a daily basis from hundreds of online retailers and then calculates inflation statistics, comparing them to the reported CPI. If inflation was a "cooked" number from our government, not to be trusted, I would expect to see some significant deviation between the BPP index and the CPI. However that hasn't been the case as the BPP index and CPI have tracked quite closely over time. So much for that conspiracy theory.

Still not convinced? OK, then I submit this chart:

It's the 5-year breakeven inflation rate, which is the difference between the 5-year Treasury yield (nominal) and the 5-year TIPS yield (real). In short, as described on the St. Louis Fed's web site, it "implies what market participants expect inflation to be in the next 5 years, on average." 

The key aspect of this chart to keep in mind is it reflects the views of "market participants," i.e. investors. It is backed by many billions of actual $$$. I believe as a general rule of thumb that "market participants" are not stupid or easily fooled and thus they would not be projecting sub-2% inflation five years from now if the "non-goosed" CPI (inflation rate) was arguably much higher. 

Again, as with the BPP, the 5-year breakeven chart helps put to rest the conspiracy theories that the "official" reported inflation rate is a cooked figure and artificially understated. On the contrary, it appears inflation has been quite low for years and if anything, based on the FRED chart above, expected inflation has been trending lower since 2006! To borrow from the legendary Wendy's TV commercial, I ask, "Where's the inflation?!"

Well, it's coming, very soon, you'll see.... Mark my words.... Yeesh.