Mercy Me! Inflation Expectations Are No Longer Well Anchored

Inflation Expectations vs Year-Over-Year Inflation Measures 2021-06

The New York Fed's latest Survey of Consumer Expectations shows another huge leap in inflation expectations.

The June 2021 Survey of Consumer Expectations shows that median inflation expectations at the short-term horizon climbed 0.8 percentage point to 4.8 percent, while inflation expectations at the medium-term horizon remained unchanged. 

Inflation Data Description

  • Median one-year ahead expected inflation rate: Respondents are asked for the percent chance that, over the next 12 months, the rate of inflation (deflation) will be 12% or higher; between 8% and 12%; between 4% and 8%; between 2% and 4%; between 0 and 2%. A generalized beta distribution is fitted to the responses of each survey participant and the mean of this distribution is calculated. This is the respondent’s “expected inflation rate”.
  • Median point prediction: Respondents are asked what they think the rate of inflation will be over the next 12 months. This is a point prediction (a single-value forecast).
  • The three-year forecasts are for three years instead of one.

Parroting the News?

One has to wonder how much of this is real opinion vs constant news recently of higher prices.

I suspect a bit of both as prices have gone up, but either way, it's irrelevant, because:

Inflation Expectations Are Meaningless

Contrary to widespread belief that inflation expectations matter, they are actually meaningless and the above charts show just that.

For most of eight years reported inflation was under 2% and often under 1%, and briefly negative. Yet, the look-ahead median point prediction was never below 2.9%.

If expectations mattered, why did the CPI and PCE stay below 2% so long? 

A look at CPI components shows how silly it is to believe in inflation expectations.

CPI Percentage Weights

CPI Percentage Weights Elastic and Inelastic

I highlighted inelastic items.

Perhaps a portion of education is elastic. But a portion of other housing is inelastic as is a portion of communication and other goods.

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