Inflation: Why the fear of inflation could be exaggerated

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Fear of rising prices:

With the economic upswing, inflation could return - but possibly only temporarily

Photo: Marius Becker / dpa

It is currently the number one topic in the financial markets: inflation is casting its shadow.

In January, prices in the euro zone, for example, were already noticeably up again, and anyone who wants to know what investors expect in this regard in the future just has to take a look at the bond markets.

On a broad front, the yields on government bonds from various countries - including Germany, the USA and Great Britain - have recently risen, accompanied by a decline in the prices of these bonds.

For experts, the cause of this movement is obvious: Investors expect that the economy will recover in the near future following the coronavirus crisis.

This means that, according to investors' calculations, the general price level will continue to rise, as can often be observed in phases of economic upswing.

Background: Because real interest rates on bonds in circulation decline as inflation rises, these papers lose their attractiveness - and are consequently sold.

In line with this consideration, there was also a recent change of favorites on the stock market: high-growth tech stocks are currently more likely to be sold by investors, while stocks from companies that would benefit particularly from an upswing - airlines, for example - are suddenly popular.

So it is no coincidence that the Lufthansa share has already risen by around 15 percent since mid-February.

The question, however, is: is there really reason to worry about a sustained return in inflation?

Or is the rise in prices that are currently on the horizon once again just a temporary phenomenon?

The latter can be found, for example, by taking a closer look at the government bond market.

As the "Wall Street Journal" reports, inflation expectations on the US bond market are currently well over 2 percent, their highest level since May 2011. This can be seen from the yield difference between ordinary US government bonds and those with built-in inflation protection (so-called "TIPS").

In Europe, on the other hand, inflation expectations are currently noticeably lower at around 1.25 percent over a five-year perspective, as the interest rate team from PGIM, the investment arm of US insurer Prudential, has calculated.

What seems remarkable, however, is that the comparison of the maturities of US bonds shows that investors there apparently have higher inflation expectations in the short term than in the long term.

This constellation is known as the "inversion of the break-even curve" and occurs only very rarely, according to the "WSJ".

In plain English, this means that although investors see higher inflation coming, they do not believe that it will last for a long time.

Possible reasons for such expectations are easy to find.

For example, the $ 1.9 trillion stimulus package that Washington is

launching

under the new US President

Joe Biden

(78), and which is considered a main driver of inflation fears, could only have a short-term effect.

The US bank Goldman Sachs estimates that more than three-quarters of the total amount of the package is accounted for by short-term income improvements for consumers.

"Inflation fake" - Pimco chief investor warns of great error

Decisive intervention by the US Federal Reserve is also conceivable: with a hard step on the brakes, the interest rate watchdogs would have the opportunity to nip the rise in the price level in the bud.

No wonder, then, that various voices are already stirring that consider current concerns about a return of inflation to be exaggerated.

Dan Ivascyn,

for example, argues in this direction.

Ivascyn is the chief investor at the bond investor Pimco.

He is sitting on assets under management of around 2.2 trillion dollars and is one of the most powerful men in the bond market and in the investment market in general.

Ivascyn told the Financial Times that the inflation expectations reflected in the recent rises in bond yields could prove to be a big mistake ("inflation head fake").

Pimco only expects a temporary rise in inflation in the wake of the economic recovery.

The Pimco investor also has good reasons for his stance: As in previous years, technological innovations that lead to cost savings will keep inflation rates low in the future.

In addition, a weak degree of organization of people in the labor markets works in the same direction.

Rise in returns as a good sign

In line with this, a current assessment by Deutsche Bank does not sound exactly alarmistic either.

The inflation rate will average 2 percent over the year 2021, it says.

At the end of the year, an increase of up to 3 percent is possible.

In the first quarter of 2022, however, the inflation rate will fall back to 1.5 percent, according to the Deutschbanker.

It is therefore quite possible that the concern that prices for goods and services could rise noticeably in the course of the upswing in the long term is once again unfounded.

Ultimately, the movement on the bond market can also be read as a good sign: namely as a signal of confidence among investors.

Thomas Gitzel, chief economist at VP Bank, sees it this way, for example.

The upward movement in government bond yields should come as no surprise, he says.

Rather, a look back at the past shows that this can be observed in all upswing phases.

"This is exactly where the good news lies," said Gitzel.

"The traffic lights point to an upswing and not a downward trend."

In the economist's view, it would be much more worrying if interest rates on long-term paper were to fall.

"This would be a sign that the financial markets do not trust the roast and are skeptical," said Gitzel.

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