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Inflation Fears Subside and Slow Growth Expectations Depress Treasury Yields

Last Friday’s “blockbuster” Personal Consumption Expenditures Report indicated the highest price increases since 1992. May 2021 prices increased 3.9% (overall) and 3.4% (core). The bond market barely shrugged, the 10 year jumped about 3 bps that day, hitting 1.53%. Today the 10 year is at 1.46%. The markets are increasing believing that inflation is transitory. The May, June and July numbers will be due to “base effects” of low numbers for 2020. The price increases are asymmetrical as certain sectors such as used cars, energy and transportation indices are up dramatically (remember that oil prices dramatically bottomed out in March-Sept 2020, before rising. Car prices are being overly effected by supply chain issues). Some commodity prices are dropping after hitting unsustainable peaks (lumber, copper, etc). Note that the 5 and 10 year Treasury “break even rates” (the difference between actual treasury yields and treasury inflation protected yields) is narrowing, another indicator of inflation expectations amongst investors. A major survey released last Friday showed consumer inflation expectations perceive the present price increases to be temporary. The depressed treasury yields could be an indication that economic growth is expected to sputter after this initial recovery. Also note that the infrastructure bill emerging from Washington will be smaller than earlier anticipated and is not being funded by massive new treasury debt (the compromise bill being discussed relies on unspent funds from other bills and increased IRS enforcement). This narrative fits in with recent statements by Fed officials who are more focused on full employment than price control . Remember that total employment (labor force) is still 8.5 million below pre-pandemic levels. So this Friday’s monthly employment report will be closely watched. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners