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Rohit Goel and Sheheryar Malik

expectations of growth, inflation, the path of interest rates, and the pricing of interest rate risk. These factors are impacted by changes in macroeconomic policies in potentially in different ways. Decomposition of Advanced Economy Nominal Yields By standard economic theory, nominal yields may be decomposed into two general components: (i) the real yield and (ii) breakeven inflation. Breakeven inflation—expressed as the difference between nominal and real yields—is commonly viewed as a market-implied measure of inflation expectations, while the real yield reflects

Rohit Goel and Sheheryar Malik
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.
Rohit Goel and Sheheryar Malik

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

International Monetary Fund

economies ( Figures 1.3 and 1.4 ). Figure 1.3. Change in Bond Yields: Most Recent GFSR to End of June (Percent) Sources: Bloomberg Finance L.P.; and IMF staff calculations. Note: 5yr-5yr denotes five-year, five-year forward. Data labels use International Organization for Standardization (ISO) country codes. EA = euro area; GFSR = Global Financial Stability Report Figure 1.4. Inflation Breakevens (Percent) Sources: Bloomberg Finance L.P.; and IMF staff calculations. Note: 5yr-5yr = five-year, five-year forward; Fed = Federal Reserve

International Monetary Fund. Monetary and Capital Markets Department

Real Rates (Percent) Sources: Bloomberg Finance L.P.; and IMF staff calculations. Note: Inflation breakevens are measures of expected inflation derived from inflation-linked bonds. Second, the recovery is expected to be asynchronous and divergent across economies (see the April 2021 World Economic Outlook ). There is a risk that financial conditions in emerging market economies may tighten markedly, especially if policymakers in advanced economies take steps toward policy normalization. A less favorable financial environment may result in large

International Monetary Fund. Monetary and Capital Markets Department

decisive tightening of monetary policy is necessary in many countries Figure 2. Near-Term Growth Forecast Densities (Probability density) Sources: Bloomberg Finance L.P.; and IMF staff calculations. After rising early in the year on concerns about the inflation outlook, advanced economy nominal bond yields have increased further since the invasion, amid heightened volatility of rates ( Figure 3 ). Inflation break-evens (a market-implied proxy for future inflation) have risen significantly on the back of sharply higher commodity prices. Figure 3

International Monetary Fund. Monetary and Capital Markets Department

.3 , panel 4, gray bars). 5 In the United States, the decline has occurred at the back end of the curve, with five-year–five-year forward real yields down 60 basis points, reflecting concerns about long-term-growth prospects. 6 The decline in longer-term real yields is in line with the secular downward trend of real yields, associated with falling trend productivity growth. In other advanced economies, by contrast, the decline in real yields has been more evident at the five-year maturity. Inflation breakevens (a market-implied proxy of future inflation) have risen in

Peter D. Williams

longer-maturity securities). The ordering of the volatilities of the different states are also in line with what we would expect; oil price and liquidity effects are more volatile than the trend rate of inflation and the unemployment gap (which has historically been fairly stable). Table 1. Factors’ Speeds of Mean-Reversion Value T-stat k 2,2 0.960 180 k 3,3 0.760 47.9 k 4,4 0.950 45.9 Source: Author’s Estimates A simple variance decomposition shows that the inflation breakevens

Peter D. Williams
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.
Oya Celasun, Mr. Lev Ratnovski, and Miss Roxana Mihet

increase in the food price index adds 0.13 basis point. In addition, oil price shocks have an impact on longer-term inflation breakeven rates (column 2). A one percent increase in the price of oil adds 0.24 basis point to the 5–10 year breakeven rate. 5 Table 1. The Sensitivity of TIPS-based Noncleaned Inflation Compensation to Oil and Food Commodity Price Shocks Dependent Variable (1) (2) (3) (4) (5) (6) 0-5 IE 5-10 IE 0-5 IE Cleaned of Liquidity Risk 5-10 IE Cleaned of Liquidity Risk 0-5 IE Cleaned of Liquidity and Inflation