How likely is an inflation disaster?

Hilscher, Jens, Raviv, Alon and Reis, Ricardo ORCID: 0000-0003-4844-9483 (2024) How likely is an inflation disaster? Review of Financial Studies. ISSN 0893-9454 (In Press)

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Abstract

Long-dated inflation swap contracts provide widely-used estimates of expected inflation. We develop methods to estimate complementary tail probabilities for persistently very high or low inflation using inflation options prices. We show that three new adjustments to conventional methods are crucial: inflation, horizon, and risk. An application of these methods finds: (i) US deflation risk in 2011-14 has been overstated, (ii) ECB unconventional policies lowered the deflation disaster probability, (iii) inflation expectations deanchored in 2021-22, (iv) and reanchored as policy tightened, (v) but the 2021-24 disaster left scars, (vi) US expectations are less sensitive to inflation realizations than in the EZ.

Item Type:	Article
Additional Information:	© 2025
Divisions:	Economics
JEL classification:	E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles > E31 - Price Level; Inflation; Deflation E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy (Targets, Instruments, and Effects) G - Financial Economics > G1 - General Financial Markets > G13 - Contingent Pricing; Futures Pricing
Date Deposited:	27 Jan 2025 09:57
Last Modified:	27 Jan 2025 10:21
URI:	http://eprints.lse.ac.uk/id/eprint/127063

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