New model improves inflation forecasts, impacts monetary policy decisions worldwide.
The researchers developed a model to analyze bond yields and inflation expectations. They found that changes in U.S. bond yields are mainly influenced by real term premia rather than inflation or liquidity risk. Adjusting for inflation and liquidity risk improves inflation forecasts. The Federal Reserve's asset purchases lowered Treasury yields by reducing real term premia. In the UK, the inflation risk premium decreased when the Bank of England adopted an inflation target.