How likely is an inflation disaster?

Jens Hilscher, Alon Raviv and Ricardo Reis

No 17224, CEPR Discussion Papers from C.E.P.R. Discussion Papers

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 over-stated, (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.

Keywords: Option prices; Arrow-debreu securities; Inflation derivatives (search for similar items in EconPapers)
JEL-codes: E31 E44 E52 G13 (search for similar items in EconPapers)
Date: 2022-04
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Working Paper: How likely is an inflation disaster? (2024)
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