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The surprising thing about inflation surprises

You may or may not be surprised to hear that there is such a thing as an inflation surprise index. This is really quite a simple indicator, it shows whether the inflation data of a country or region is beating or disappointing against expectations. The higher the reading the more inflation is surprising to the upside (and vis versa). Below are two charts showing the latest trends, which may surprise some...

1. Breadth of inflation surprise across regions/countries is rising

This graph shows an indicator that tracks how many countries/regions have inflation surprise indexes that have risen above 0. It may surprise you to learn that this indicator has made such a sharp turnaround from a low of 14% in December last year to 64% in August.

2. Both emerging and developed economies are seeing a rising trend

Looking at the Citi Inflation Surprise Indexes for emerging markets and developed markets (G10 countries), there has been a clear turnaround with emerging market economies leading the charge, and developed economies now, with a lag, also turning up.

Why the upturn?

So when thinking about economic or inflation surprise indexes they can go up for one of two reasons. First of all if expectations get too depressed e.g. people start expecting deflation, and narratives about structurally low inflation start showing up; in that situation all that is needed is for average inflation outcomes to surprise against pessimistic expectations. The other way is if inflation really takes off.

In the current environment it's probably a combination; pessimistic expectations about inflation, and the rebound in commodity prices driving up headline measures of inflation while global growth indicators remain mixed. Whichever way you put it, inflation outcomes are starting to beat expectations. This has implications for bonds which are vulnerable to any lift in inflation outcomes or inflation expectations. Equities on the other hand might benefit from a measured uplift in inflation (but a surge in inflation would be bearish equities). So this is certainly an emerging trend to keep an eye on.

Bottom line: Inflation has generally been beating expectations around the world, particularly in emerging economies; this poses risks for bonds, and might be mildly supportive for equities.

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