Preliminary and Incomplete Inflation Targeting and the Anchoring of Long-Run Inflation Expectations: International Evidence from Daily Bond Yield Data

Abstract: We gauge the extent to which inflation targeting helps anchor long-run inflation expectations by evaluating the behavior of daily bond yield data for the United States, Sweden, and the United Kingdom. Using the difference between long-term forward rates on nominal and indexed bonds as an indicator of compensation for expected inflation and inflation risk at that horizon, we examine the extent to which forward inflation compensation moves in response to surprises in monetary policy and in macroeconomic data releases. We find that U.S. inflation compensation exhibits highly significant movements in response to economic news. In contrast, our results indicate that long-run inflation expectations are firmly anchored in Sweden and the United Kingdom: in both cases, forward inflation compensation is generally invariant not only to domestic news but also to Euro Area and U.S. economic news. Finally, we find a handful of apparently anomalous results—for example, U.K. inflation compensation responds negatively to domestic surprises in retail sales—that appear to be consistent with the influence of financial market factors rather than changing perceptions about long-run inflation