Inflation: Some Say It Is A Supply Shock But… Is It?

A supply shock occurs when a lack of inventories is the reason for rising prices. But then inflation would be similar in all regions… and it’s not.

Contrary to Popular Opinion

With the U.S. 10-Year Treasury yield inching higher in recent days, the boom-or-bust economic narrative has the Treasury benchmark on the wrong side of optimism. However, it’s important to remember that the U.S. 10-Year Treasury yield still trades at an all-time low relative to realized inflation.

To explain, I wrote previously:

The scatterplot above depicts the relationship between the headline Consumer Price Index (CPI) and the U.S. 10-Year Treasury yield (available data dates back to 1967). For context, the headline CPI is plotted on the horizontal axis, while the U.S. 10-Year Treasury yield is plotted on the vertical axis. If you analyze the dot labelled “Current Reading,” you can see that the U.S. 10-Year Treasury yield has never been lower when the headline CPI has risen by 5% or more year-over-year (YoY). In fact, even if the headline CPI declined to the FED’s 2% YoY target, the U.S. 10-Year Treasury yield at 1.22% would still be the lowest relative reading of all time.

Thus, while investors have left the long end of the U.S. yield curve for dead, Citigroup forecasted a rebirth on Aug. 4. To explain, Citigroup’s rates strategists told clients that the U.S. 10-Year Treasury yield should reach 2% in the coming months.

Please see below:

Tilting the scale, Citigroup noted that Treasury tax collection in June left the federal government flush with cash and resulted in only $94 billion of new Treasury issuance. In the process, with the U.S. Federal Reserve (FED) buying $80 billion of the $94 billion in new notes, distortion prevailed across the Treasury market.

What’s more, Citigroup’s chief U.S. equity strategist Tobias Levkovich told Bloomberg on Aug. 4 that the bank expects interest rate sensitive assets to come under pressure in the coming months. For context, the PMs are highly allergic to rising interest rates. He said:

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William K. 2 months ago Member's comment

There are plenty of groceries, so no shortage there, and lots of gas at the pumps, but all prices are up 5% at least. So that certainly has the smell of inflation. The permanent variety, not transient or transitory, but here to stay.