In September 1997, the U.S. Treasury developed the TIPS market in order to achieve three important policy objectives: 1) to provide consumers with a class of assets that allows for hedging against real interest rate risk; 2) to provide holders of nominal contracts a means of hedging against inflation risk; and 3) to provide everyone with a reliable indicator of the term structure of expected inflation. This paper evaluates the achievement of these objectives and analyzes prospective ways to better meet these objectives in the future, by, for example, extending the maturity of TIPS and/or the use of inflation indexes catered to particular geographic regions or demographics. We conclude by arguing that while it is tempting to consider completing markets by introducing more TIPS-like securities indexed to inflation rates that are more tailored to particular demographics, our analysis suggests that TIPS indexed to CPI do in fact facilitate good synthetic hedges against unexpected changes in inflation for many different investors, since the various inflation measure are very highly correlated. We do however argue for extending the maturity of TIPS.
Barnes, Michelle L. and Bodie, Zvi and Triest, Robert K. and Wang, J. Christina, A TIPS Scorecard: Are TIPS Accomplishing What They Were Supposed to Accomplish?
Can They Be Improved? (August 31, 2009). Boston University School of Management Research Paper No. 2009-10. Available at SSRN: http://ssrn.com/abstract=1467196 or http://dx.doi.org/10.2139/ssrn.1467196