The tricky thing about averages is that they hide underlying differences in data. Arnaud Mare?s at Morgan Stanley believes this is causing a particularly deceiving situation right now, in terms of inflation forecasts.
Basically, inflation forecasts have remained stable lately, as shown by the green line below, despite some warning of U.S. deflation and others warning of hyperinflation. Yet the catch is that while the average inflation expectation has remained stable, there's an increasing tendency for forecasters to expect an extreme change, either towards delfation or towards higher inflation. This has increased the difference between forecasts, as shown by the blue line below.
Morgan Stanley:
This is a perplexing time for central bankers. Inflation expectations remain firmly anchored in the neighborhood of their targets. This should be comforting, yet it is not. The variance of medium-term inflation expectations (see Exhibit 1) has been steadily increasing... So stable inflation expectations are not so much a sign of confidence as of indecisiveness across the market as to whether central banks are more likely to miss their target on the upside or the downside. This gives a new meaning to the notion that risks are ‘finely balanced’.
Thus extreme views are becoming more common, and as the ranks of inflationistas and deflationistas swell, there are fewer and fewer who expect merely normal, stable inflation:
(Via Morgan Stanley, Better The Devil You Know, Arnaud Mare?s, 18 August 2010)
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