Inflation expectations from index-linked bonds: Correcting for liquidity and inflation risk premia

Florian Kajuth and Sebastian Watzka

Discussion Papers in Economics from University of Munich, Department of Economics

Abstract: We provide a critical assessment of the method used by the Cleveland Fed to correct expected inflation derived from index-linked bonds for liquidity and inflation risk premia and show how their method can be adapted to account for time-varying inflation risk premia. Furthermore, we show how sensitive the Cleveland Fed approach is to different measures of the liquidity premium. In addition we propose an alternative approach to decompose the bias in inflation expectations derived from index-linked bonds using a state-space estimation. Our results show that once one accounts for time-varying liquidity and inflation risk premia current 10-year U.S. inflation expectations are lower than estimated by the Cleveland Fed.

Keywords: Inflation expectations; liquidity risk premium; inflation risk premium; treasury inflation-protected securities (TIPS); state-space model (search for similar items in EconPapers)
JEL-codes: E31 E52 G12 (search for similar items in EconPapers)
Date: 2008-07-10
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Citations: View citations in EconPapers (2)

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Related works:
Journal Article: Inflation expectations from index-linked bonds: Correcting for liquidity and inflation risk premia (2011)
Working Paper: Inflation expectations from index-linked bonds: Correcting for liquidity and inflation risk premia (2011)
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Persistent link: https://EconPapers.repec.org/RePEc:lmu:muenec:4858

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