Working Paper: NBER ID: w24788
Authors: Olivier Coibion; Yuriy Gorodnichenko; Saten Kumar; Mathieu Pedemonte
Abstract: We assess whether central banks may use inflation expectations as a policy tool for stabilization purposes. We review recent work on how expectations of agents are formed and how they affect their economic decisions. Empirical evidence suggests that inflation expectations of households and firms affect their actions but the underlying mechanisms remain unclear, especially for firms. Two additional limitations prevent policy-makers from being able to actively manage inflation expectations. First, available surveys of firms’ expectations are systematically deficient, which can only be addressed through the creation of large, nationally representative surveys of firms. Second, neither households’ nor firms’ expectations respond much to monetary policy announcements in low-inflation environments. We provide suggestions for how monetary policy-makers can pierce this veil of inattention through new communication strategies. At this stage, there remain a number of implementation issues and open research questions that need to be addressed to enable central banks to use inflation expectations as a policy tool.
Keywords: Inflation Expectations; Monetary Policy; Central Banks
JEL Codes: C83; D84; E31
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| exogenous increase in households' inflation expectations (D19) | increase in consumption (E21) |
| increase in consumption (E21) | raise inflation through general equilibrium effects (E31) |
| inflation expectations of firms (E31) | influence their economic decisions (F69) |
| inflation expectations of firms (E31) | affect pricing, investment, and hiring (J23) |
| increase in firms' inflation expectations (E31) | higher employment and investment (in New Zealand) (E22) |
| increase in firms' inflation expectations (E31) | reduced employment (in Italy) (J63) |