The Dynamics of Long-Run Inflation Expectations: A Market-Based Perspective

This article analyzes market-based probability distributions for long-run inflation expectations derived from inflation derivatives. We construct forward-looking distributions for five-year-ahead inflation to assess the likelihood that inflation will fall above, below, or near the Federal Reserve’s 2 percent target. By examining the mean, volatility, and skewness of these distributions, we document how expectations have evolved since the onset of the COVID-19 pandemic. To assess the reliability of market-based measures, we compare our results with alternative data sources. We highlight the elevated probability of inflation exceeding the 2 percent target that persisted shortly after the COVID19 pandemic. The findings underscore the importance of market-based tools in capturing nuanced inflation dynamics and informing policy and financial decisions.