Our Fixed Income CIO Sonal Desai has been ahead of the curve in flagging the risks of inflation and rising rates that have now entered the mainstream debate. In this article, she assesses the coming together of an unprecedented fiscal stimulus, a very accommodative US Federal Reserve, and an economy poised to rebound as vaccination campaigns pave the way for reopening businesses. She cautions that central bankers might be underestimating how difficult it will be to deal with the “devil they knew”—inflation—especially if inflation expectations become unmoored; and, she highlights the key fixed income investment implications.

Inflation concerns have entered the mainstream; a bit of a shame, since I quite enjoyed being out of consensus. Now there is growing agreement that inflation will most likely move to healthier levels as the economy reopens; more interestingly, the risk of a sharper surge in inflation has become the topic of a heated public debate.

Ironically, this is happening in part because inflation concerns have been discounted so completely for so long. Many economists and market participants have long argued that inflation is dead for structural reasons, leaving deflation as the only plausible concern. Their mantra has been that no matter what policymakers do, inflation will never again rise to uncomfortably high levels.

Well, we are about to find out, because this conviction has paved the way for a proposed US fiscal package so large that it has given pause even to some long-standing advocates of large fiscal stimulus.