Why the most important hedge is against unexpected inflation

IT IS HARD to say precisely when a cherished theory of inflation lost its sway. But if you had to pick a moment, it might be during an exchange last July between Alexandria Ocasio-Cortez, a first-time congresswoman who had risen quickly to prominence, and Jerome Powell of the Federal Reserve.

The occasion was the twice-yearly testimony by the Fed’s chairman to Congress. The unemployment rate, noted Ms Ocasio-Cortez, had fallen by three percentage points since 2014, yet inflation was no higher. Might the Fed’s estimates of the lowest sustainable jobless rate have been too high in recent years? “Absolutely,” replied Mr Powell. The once-strong link between unemployment and inflation, known as the Phillips Curve, was a “faint heartbeat”, he said.

Inflation now seems no more pressing a worry than other diseases of the distant past—smallpox, say, or scurvy. Even central bankers, who are paid to be anxious, tend to fret that inflation in rich countries might stay too low, not that it might suddenly surge. Investors may see it differently. The whole edifice of asset prices is founded on the expectation that inflation—and thus interest rates—will stay low. An unexpected rise in inflation ought to be the thing investors are most determined to guard against.

Inflation clearly does not behave as it used to. It no longer goes...



via The Economist: Finance and economics Business Feeds

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