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What drives euro area break-even inflation rates?

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  • Ciccarelli, Matteo
  • Garcí­a, Juan Angel

Abstract

The yield spread between nominal and inflation-linked bonds (or break-even inflation rates, BEIR) is a fundamental indicator of inflation expectations (and associated premia). This paper investigates which macroeconomic and financial variables explain BEIRs. We evaluate a large number of potential explanatory variables through Bayesian model selection techniques and document their explanatory power at different horizons. At short horizons, actual inflation dynamics is the main determinant of BEIRs. At long horizons, financial variables (i.e. term spread, bond market volatility) become increasingly relevant, but confidence and cyclical indicators remain important. JEL Classification: C11, C52, E31

Suggested Citation

  • Ciccarelli, Matteo & Garcí­a, Juan Angel, 2009. "What drives euro area break-even inflation rates?," Working Paper Series 996, European Central Bank.
    • Handle: RePEc:ecb:ecbwps:2009996
    Note: 224580
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Montes, Gabriel Caldas & de Hollanda Lima, Natalia Teixeira, 2022. "Discretionary fiscal policy, fiscal credibility and inflation risk premium," The Quarterly Review of Economics and Finance, Elsevier, vol. 85(C), pages 208-222.
    2. Grothe, Magdalena & Lejsgaard Autrup, Søren, 2014. "Economic surprises and inflation expectations: Has anchoring of expectations survived the crisis?," Working Paper Series 1671, European Central Bank.
    3. Ciccarelli, Matteo & García, Juan Angel, 2015. "International spillovers in inflation expectations," Working Paper Series 1857, European Central Bank.
    4. Byrne, David & Zekaite, Zivile, 2019. "Euro area longer-term inflation expectations revisited," Economic Letters 12/EL/19, Central Bank of Ireland.
    5. Garcí­a, Juan Angel & Werner, Thomas, 2010. "Inflation risks and inflation risk premia," Working Paper Series 1162, European Central Bank.
    6. Tura-Gawron, Karolina, 2019. "Consumers’ approach to the credibility of the inflation forecasts published by central banks: A new methodological solution," Journal of Macroeconomics, Elsevier, vol. 62(C).
    7. Montes, Gabriel Caldas & Curi, Alexandre, 2017. "Disagreement in expectations about public debt, monetary policy credibility and inflation risk premium," Journal of Economics and Business, Elsevier, vol. 93(C), pages 46-61.
    8. repec:gdk:wpaper:50 is not listed on IDEAS
    9. Jakob de Haan & Marco Hoeberichts & Renske Maas & Federica Teppa, 2016. "Inflation in the euro area and why it matters," DNB Occasional Studies 1403, Netherlands Central Bank, Research Department.
    10. Degiannakis, Stavros & Filis, George, 2023. "Oil price assumptions for macroeconomic policy," Energy Economics, Elsevier, vol. 117(C).

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    More about this item

    Keywords

    Bayesian model selection; break-even inflation rates; business cycle indicators; inflation risk premia;
    All these keywords.

    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation

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