Inflation Gauge Rises Less Than 10 Bps
A sharp increase in energy prices resulting from the conflict in Iran has failed to trigger a significant reaction in the bond market's primary inflation gauge. Since the war began, 2-to-5-year breakeven inflation rates have climbed a modest 20 to 35 basis points. More telling is the 10-year breakeven rate, which has increased by less than 10 basis points.
This muted response stands in stark contrast to previous geopolitical shocks. Following the Russia-Ukraine conflict in 2022, the 10-year breakeven rate soared by nearly 100 basis points. The current market calm suggests investors are operating with a strong conviction that the energy price shock will be temporary, echoing a belief that proved incorrect after the COVID-19 pandemic and the 2022 conflict.
20 Bps Liquidity Drop Obscures Inflation Outlook
The apparent stability in inflation expectations is a market illusion, according to analysis from Bloomberg macro strategist Simon White. The breakeven rate is calculated as the market's inflation expectation minus the liquidity premium on Treasury Inflation-Protected Securities (TIPS). When oil shocks occur, investors often rush into TIPS, driving down this liquidity premium and artificially inflating the breakeven rate.
Analysis shows the 5-year TIPS liquidity premium has fallen by approximately 20 basis points since the conflict started, an amount that almost entirely cancels out the rise in the 5-year breakeven rate. This indicates that the market's true underlying inflation expectation has remained flat or may have even decreased. The market is pricing in the technical effect of lower liquidity costs, not a genuine increase in future inflation risk.
Fed Policy Credibility Faces Test
The market is sending contradictory signals, creating a fragile environment. While investors are pricing in higher future policy rates from the Federal Reserve to combat potential inflation, political dynamics suggest a different path. The nomination of Kevin Warsh, who is not considered a strong hawk, as a potential Fed chair and pressure from President Trump for immediate rate cuts create a deep policy conflict.
This tension places the Fed's credibility at risk. If the market loses confidence in the central bank's commitment to fighting inflation, a chaotic repricing could follow. This would force not only inflation expectations but also term premiums to adjust sharply higher, potentially pushing nominal yields up across the curve. The dynamic mirrors the 1973 oil crisis, when a politically influenced Federal Reserve lost control of inflation, leading to severe economic consequences.
Inflation will make itself heard one way or another... Just don’t assume long-end breakeven rates are the right place to be listening for it.
— Simon White, Bloomberg Macro Strategist.
Edgen Stock·Mar 17 2026, 14:11