Viewpoints

The Great U.S. Inflation Head Fake

In this Q&A, we assess investors’ inflation concerns and outline reasons that near-term price adjustments are unlikely to lead to longer-term inflation.

PIMCO’s most recent Cyclical Outlook,Dealing With an Inflation Head Fake,” concludes that investors should be prepared for an inflation “head fake” in what is likely to be a volatile near-term investment environment. This head fake is likely to be most pronounced in the U.S., where higher commodities prices, trade bottlenecks, and projections for the fastest rate of growth in 40 years have contributed to fears of overheating. These fears are only likely to become more acute over the next several months as economic activity picks up alongside a better public health outlook, bringing with it a normalization in prices. Headline inflation is likely to accelerate up to 3.5% on a year-over-year (y/y) basis by May – the fastest pace in 10 years.

Over the next several months, we expect to witness a multi-month price level adjustment, which will feel a lot like a shift higher in inflation. However, over the second half of 2021 as the U.S. economy continues to normalize, we believe sequential (quarter-over-quarter) growth in real economic activity and prices will slow, bringing down the y/y rate of inflation. We expect core Consumer Price Index (CPI) inflation will end the year running modestly below 2%, and although core CPI is expected to accelerate to 2.2% in 2022, differences in index construction mean that the Fed’s preferred core personal consumption expenditures (PCE) price measure will lag. This disappointment might be all the markets need to moderate expectations for tighter Fed policy.

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The Author

Tiffany Wilding

North American Economist

Allison Boxer

Economist

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Disclosures

U.S. Federal Reserve (Fed);

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