Stability is destabilizing. – Hyman P. Minsky, "Can ‘It’ Happen Again?"
Stability is destabilizing.
Inflation has eased to around 3% – well below its 2022 peak but still above the Federal Reserve’s 2% target. The slowdown offers relief, not resolution. As the chart illustrates, prices never returned to their old trajectory. Inflation has cooled, yet it now runs on top of a permanently higher base.
For nearly two decades before 2020, core inflation hugged the 2% trend line. The pandemic shattered that pattern. Prices now stand about 10% above where the 2% trendline would have placed them.
The math behind the chart shows how unlikely it is to close that gap. Returning to the 2% path would require inflation to average about 1% for the next decade or 1.5% for 20 years. That would mean years of tight money and below-trend growth – an implausible scenario for a central bank focused on inflation’s rate, not its level. The distance between the lines marks not a temporary overshoot but a permanent repricing of the nominal economy.
The rise in prices over the past several years repriced the entire nominal economy. Wages, rents and service costs climbed to match the new scale while interest rates moved in step. The result is not an overheating but recalibration – a 10-year U.S. Treasury yield near 4% now fits an economy expanding 4% to 5% in nominal terms. The Fed has not restored the old trend; it has stabilized a new one.
Markets have priced a world of steady but unfinished disinflation. Zero-coupon inflation swaps from one to 10 years hover near 2.5%, showing that investors no longer expect a full return to the Fed’s 2% target. Stability now means keeping inflation near that level, not below it. Equity and credit markets trade on that assumption: steady inflation, firm nominal growth and positive real yields.
The higher nominal base has strengthened the credit system. Revenues, wages and cash flows are all larger in dollar terms, making yesterday’s debts smaller in real terms. Borrowers look healthier, defaults remain low, and credit spreads stay tight despite higher interest rates. Debt burdens did not vanish – they shrank relative to the inflated economy. Inflation hurt savers but quietly healed debtors. The higher nominal world reduced leverage without creating financial strain. That healing, however, stopped at the U.S. Treasury’s door; fiscal expansion more than absorbed inflation’s relief. The easing in inflation offered temporary relief, but the higher price level did not. Its burden has been uneven – heavier for lower-income households who faced lasting increases in essentials, lighter for wealthier ones cushioned by rising asset values.
The core Consumer Price Index trend line once defined price stability. Now it marks a lower-price world we have left behind. Inflation might be under control, but the definition of “normal” has shifted upward.
Between the Lines is a weekly blog by DoubleLine Portfolio Managers Sam Garza, Joseph Mezyk and Quant Analysts Fei He, CFA and Sunyu Wang that breaks down topical macro and market issues. For questions or suggestions please e-mail us at betweenthelines@doubleline.com. The views and opinions expressed herein are those of the authors and do not necessarily reflect the views of DoubleLine Capital LP, its affiliates or employees.
