1. Introduction Slightly more than a decade has passed since the inaugural issuance of inflation-indexed debt by the U.S. Treasury Department. Eleven years and thirty issues later, we are at a good vantage point from which to evaluate the successes and failures of the Treasury Inflation-Protected Securities (TIPS) program. From a purely financial perspective, a number of recent studies have suggested that the program has been a disappointment. After calculating the direct costs of TIPS issuance relative to issuance of nominal Treasury securities, the studies show that the first ten years of the TIPS program have cost the Treasury billions of dollars (Sack and Elsasser 2004; Roush 2008). Importantly, these studies rely entirely on ex post analysis. In other words, the studies ask, Given the actual inflation outcome, did the costs of TIPS issuances exceed the costs of nominal Treasury issuances of similar durations? This approach depends on the actual inflation outcome, which may differ from expectations at the time the TIPS investment was made because investors do not have perfect foresight of inflation. If investors underpredict actual inflation when purchasing TIPS at auction, then these positive forecast errors would increase the payments that the Treasury has to make to TIPS holders to compensate them for realized inflation. (1, 2) Upside inflation surprises tend to increase the ex post cost of issuing TIPS compared with nominal Treasuries. While inflation forecast errors are relevant for calculating the actual costs incurred over the first ten years of the TIPS program, we believe they are irrelevant in assessing the expected benefits or costs of the program over the long run--a theme we explore in this article. In other words, current ex post analysis suffers from the problem of small sample size, particularly since most of the issues have overlapping lifetimes and therefore are not necessarily independent of each other. In the long run, investors learn from their mistakes, and inflation shocks tend to average out. When investors make a particular forecast error, they adapt their future expectations accordingly so they do not persistently make the same error. This means that eventually, amid shifting economic conditions, their accumulated forecast errors will average to zero. Similarly, over time, the amount of upside and downside inflation surprises should average to zero. The implication of this process for the TIPS program is that, in the long run, factors other than inflation forecast errors will determine its cost relative to the cost of nominal Treasury issuance (Table 1). What are these other factors? Two primary factors are the compensation investors require to hold a security that is less liquid than its nominal counterpart, termed the illiquidity premium, and the insurance value they attach to obtaining protection against inflation risk, known as the inflation risk premium. (3) With regard to the first factor, when investors are worried about their ability to resell TIPS in a liquid secondary market, they require compensation for holding the securities compared with more liquid alternatives. This illiquidity premium tends to drive up TIPS yields and increase the Treasury's borrowing costs. The second factor works in the opposite direction. To the extent that investors are willing to pay for inflation protection, they would purchase TIPS at a price above that implied by their expected payment stream. As such, inflation risk premiums result in lower expected borrowing costs for the government and savings for the TIPS program compared with nominal issuance. To determine which factor has been historically dominant, we conduct an ex ante cost analysis: We compare the amount that the Treasury received for inflation compensation at auction with an observable measure of contemporaneous inflation expectations. (4) The difference between these series yields a measure of the net savings or loss incurred by the Treasury that is independent of inflation forecast errors. …