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UK Fixed Income - Expectation management

Ana Gil Ana Gil, fixed interest investment specialist at M&G and Bond Vigilantes blogger, comments on the findings of the Q3 edition of the M&G YouGov Inflation Expectations Survey

One of the key objectives of modern monetary policy is to anchor inflation expectations. Managing inflation expectations is the first step to managing inflation. The extent to which inflation expectations are anchored can have direct implications for the performance of inflation and the broader economy.

  • When inflation expectations are not well-anchored, falling (or rising) inflation can create uncertainty about future prices
  • This encourages consumers to delay purchases and hence slows down economic activity
  • When inflation expectations are well-anchored, supply-driven price shocks are less likely to affect consumer habits, reducing scope for economic instability

One of the key objectives of modern monetary policy is to anchor inflation expectations – managing inflation expectations being the first step to managing inflation. The extent to which inflation expectations are anchored can have direct implications for the performance of inflation and the broader economy.

Where inflation expectations are not very well-anchored, falling (or rising) inflation can create uncertainty about future prices, driving consumers to delay purchases and, as a result, slow down economic activity. On the other hand, when inflation expectations are well-anchored, supply-driven price shocks (such as sharp increase or decrease in commodity prices) are less likely to modify consumer habits in the short term, reducing the scope for economic instability.

Well-anchored inflation expectations are therefore key for central bank policy framework today and reflective of a credible monetary policy. In this vein, the Q3 2015 edition of the M&G YouGov Inflation Expectations Survey finds central bank credibility remains high across the UK, Europe and Asia.

In the UK, consumers reported that one in two of them are “fairly confident” or “very confident” the Bank of England will achieve price stability over the medium term – that is, three to five years. Furthermore, all European countries reported long-term inflation expectations at or above the European Central Bank’s long-term inflation target.

Over the short term, expectations appear to have stabilised across most regions after hitting record lows in 2014. An uptrend is particularly notable in the UK where the forecast for inflation over one year has risen by 0.3% to 1.5%. We also note a positive trend in net income expectations as labour markets continues to tighten in many countries.

New for this quarter, we introduce three new questions to assess public sentiment towards sovereign bailouts, house price growth and internet shopping.

The full report and data from the Q3 2015 survey is available here. In addition, the Bond Vigilantes regularly tweet inflation updates via their @inflationsurvey Twitter account

Key highlights from the latest report include:

  • Consumers remain broadly optimistic on house price growth over the next 12 months
  • There is a low level of support for sovereign bail-outs across the UK and most European countries
  • Online shopping has become increasingly popular with seven out of 10 respondents having bought online at least once over the last month
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