The deep recession in the first half of this year has led to widespread expectations of significant and persistent disinflation. We estimate that the rates markets are pricing in approximately 1% core inflation on average over the next 10 years. While we agree that some disinflation in the near term is unavoidable, we think that the potential for inflation to accelerate over the next year or so is substantial. We expect core PCE to end 2021 closer to 2%, compared with 1.5% expected by consensus, and is likely to continue to rise further thereafter.

Thanks to massive and early fiscal and monetary stimulus measures, incomes are likely to remain resilient in most major economies despite a gigantic fall in output and employment. As lockdowns are relaxed and activity rebounds, we expect resilient aggregate demand, supported by resilient incomes, to be met with a shrunken supply as the labor market recovers more gradually. Economic policy activism, both fiscal and monetary, is likely to endure over the medium term in light of greater social and political acceptance. Deficit spending will necessitate some form of financial repression, with higher inflation likely being a major part of this.