Last week, I described Vanguard’s take on growth and inflation, and it got me thinking about inflation. In general, I was comforted by their views, which I characterized as ‘Steady as She Goes,’ but the inflation number started to bother me a little bit.
Their forecast is for core Personal Consumption Expenditure (PCE), which is the Federal Reserve’s preferred measure for inflation, and Vanguard projected 3.0 percent for 2025 and 2.2 percent for 2026.
That’s good news to me, because it suggests that they think, after much thoughtful analysis, that the tariffs won’t drive prices radically higher and won’t last long (transitory, to use a controversial word).
Vanguard’s forecast also fits reasonably well with market ‘breakevens,’ which are a market signals derived from looking at the yields on regularly Treasuries and Treasury Inflation Protected Securities (TIPs). I usually look at ten-year breakevens, which suggest that the market’s forecast for inflation over the coming decade is 2.4 percent.
Breakevens are estimates that forecast the Consumer Price Index (CPI), which is a slightly different measure than PCE. This is an old rule of thumb, but, on average, CPI runs about a half percent higher than PCE on average and over time (two of my three favorite qualifiers).
I looked at the five-year breakeven, which is right around 2.5 percent, and realized we’re about halfway through the 2020s. With CPI at 4.2 percent so far this decade, it occurred to me that if breakevens are correct (and they often aren’t), then the whole decade will come in around 3.4 percent.
My first thought was that 3.4 percent wasn’t too bad since I always think of the long-run average as around 3.0 percent, and that’s what we use in our financial planning software.
Then I remembered the old joke about the economist who has his head in the oven and feet in the freezer, but on average, feels fine (not to be confused with the one-armed economist). So, I made the chart below that plots inflation by decade.
For the most part, I think the chart is pretty straightforward, but there are some notes worth making. First, I only used data starting in 1926, so the deflation that you see in the 1920s is less than half the decade. I used it anyway, just because it fit well with the deflation in the 1930s.
The inflation in the 1940s is a response to World War II, and then inflation is pretty tame for two decades until the dreaded 1970s, when it went through the roof. After that, Fed Chair Paul Volcker took interest rates to very high levels, inflation broke and fell steadily for the next round decades.
Then it gets a little interesting, and my column for the 2020s may be hard to read, but I’ve got two ideas in there. First, the green and orange bars together represent the 4.2 percent inflation that we’ve experienced thus far. When viewed this way, this is the fourth-highest decade in modern US history, though far from the worst.
The green part of that column is where markets will hope it ends up, by taking what’s happened and connecting it with the five-year breakeven rate. I shaded both parts because it’s all a guess… I mean an estimate!
The yellow line is the long-term average for the whole period, which highlights all of the periods above and below the average.
Whether inflation ultimately settles closer to two or three percent, it’s clear that the ultra-low inflation environment of the previous 20 years is behind us. While the worst of the recent spike may be over, it’s still too soon to declare victory. Tariffs, policy shifts, and supply chain pressures all leave room for surprises.
That said, history suggests inflation can come down without derailing the economy — and market signals seem to support that view for now. I’m not inclined to increase or long-term expectation, but we can stress test financial plans, revisit assumptions, stay flexible, and keep a close eye on the data as it unfolds.
