Great Expectations: Using Survey Inflation Expectations To Improve Inflation Forecasts-Analytical Note
Inflation expectations are essential for effective monetary policy because expectations affect current pricing behaviour, according to an Analytical Note released today by the Reserve Bank of New Zealand – Te Pūtea Matua.
Expectations of what inflation may be in the months and years ahead will affect current behaviour for businesses setting their prices or workers seeking wage rises, and so influence actual inflation in the future. Surveys of inflation expectations can cast light on what people are expecting to happen.
The research results indicate that using surveyed inflation expectations in forecasting models can improve forecasts of inflation. Forecasts for headline inflation including inflation expectations are significantly more accurate than similar forecasts without survey inflation expectations.
The note considers how much survey inflation expectations improve forecasts of headline inflation.
“Inflation expectations are a key part of the price and wage-setting process and, thus, are a critical factor in monetary policy decision-making,” the note says.
The note considers inflation expectations from a range of sources, including households and businesses surveys and professional forecasters. “We find that most of the measures we study are valuable predictors of actual inflation outturns,” the note’s authors Meltem Chadwick and Tyler Smith say.