the all term premiums are zero for n = 1 (i.e., ψ n , t I = ψ n , t N = ψ n , t R = 0 ) by definition, it does not mean there is no inflation risk premium for the one-period nominal bond. That is, unless Cov(Π t+1 , M t,t+1 ) = 0 is satisfied, r t = R t /𝔼 t [H t+ i] is not satisfied and so the breakeveninflation is not equal to inflation expectations due to the inflation risk premium in the model. 8
To make the model quantitatively tractable, it is assumed that the supply of n -period bond for n > 1 is equal to zero in equilibrium without loss of
lower than on conventional bonds. The Bank of Canada has estimated that the RRB program resulted in debt service savings of C$1.5 billion. 4 However, with the increased credibility of the authorities’ inflation target, the break-even inflation rate implied by RRB yields has begun to closely match actual inflation, and the Bank of Canada estimates that RRBs would remain only marginally cost-effective relative to nominal bonds if future inflation remains close to the mid-point of the inflation target range.
Figure 1 BreakevenInflation and Actual Inflation
The nominal bond yields for advanced economies rose sharply during the first quarter of the year. This note analyzes the drivers of this increase across the jurisdictions and tenors of the yield curve. A key investor focus, in particular, has been the rise in the nominal bond yields in the United States, which has had notable global financial stability spillovers. The analysis indicates that the rise in inflation expectations is the primary driver of the rise in US nominal bond yields over the near term, whereas, the rise in real yields has been the major contributor to the rise in longer-term yields. The change in term premiums has also played a key role in driving both the longer-term inflation breakeven and real yields. Considering other major advanced economies, while inflation expectations have risen across the board in the near term, change in real yields appear more pertinent a driver for shifts in longer-term yields.
6. Actual and Fitted Real Effective Exchange Rates, 1980–2003
IV. The Information Content of Real Return Bonds
A. Canada’s Real Return Bond Program
B. The Information Content of Canadian RRBs
C. What Effect Does Monetary Policy Have on Real Yields?
D. Do Break-Even Inflation Spreads Affect Short-Term Interest Rates?
E. Concluding Remarks
1. RRB Gross Issuance
2. Canada: Regression of Inflation-Adjusted Nominal Bond Yields on RRB Yields
3. Inflation Forecast and BreakevenInflation
Inflation has been below the Federal Reserve’s target for much of the past 20 years, creating worries that inflation may be deanchoring from the FOMC’s target. This paper uses a factor model that incorporates information from professional forecasters, household and business surveys, and the market for Treasury inflation protected securities (TIPS) to estimate long-run inflation expectations. These have fallen notably in the past few years (to roughly 1.9 percent for CPI inflation, well below the FOMC’s target). It appears that, even before the covid recession, the private sector viewed the economy as likely to suffer from persistent headwinds to inflation.