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What is breakeven inflation?
Breakeven inflation is the difference between a nominal Treasury yield and the same-maturity TIPS yield. It represents the inflation rate at which an investor would be indifferent between holding a nominal Treasury and a TIPS. The 5Y and 10Y breakevens are the most-watched market-based inflation expectations and respond to oil shocks, supply-chain stress, and Fed credibility within minutes. Watch for divergences from survey-based measures (Michigan, NY Fed) - when they disagree, watch the 5Y5Y forward.
- 5Y breakeven - Near-term inflation expectations.
- 10Y breakeven - Medium-term, includes term premium noise.
- 5Y5Y forward - Pure long-run inflation expectation. Fed watches closely.
- Survey vs market - Divergences signal Fed-credibility shifts.
How breakevens are calculated
- 5Y breakeven = 5Y nominal yield − 5Y TIPS yield
- 10Y breakeven = 10Y nominal − 10Y TIPS
- 5Y5Y forward = expected 5Y breakeven 5 years from now
The 5Y5Y forward is the cleanest measure of long-run inflation expectations because it strips out near-term noise.
What moves breakevens
- Oil shocks - within hours
- CPI/PCE surprises - within minutes
- Fed reaction-function shifts - gradually
- Supply-chain stress - over weeks
Why the Fed cares
The Fed's credibility depends on long-run inflation expectations staying anchored near 2%. If 5Y5Y forward breakevens rise materially above 2.5%, the Fed must respond or lose anchor. This is why breakeven moves matter to policy.