Indirect consumer inflation expectations: Theory and evidence

Abstract

Based on indirect utility theory, we ask consumers about the change in their incomes that would be required to offset expected price changes and buy the same amounts of goods and services one year ahead in a large-scale, high-frequency survey of consumers in the US and 14 other countries. Aggregating responses across consumers provides an alternative, indirect measure of inflation expectations compared with conventional, direct measures, but with theoretically lower ex-post forecast errors. The survey responses show that indirect consumer inflation expectations vary based on age, gender, individual inflation experiences, and local shocks. Exploiting rich cross-sectional variation, inflation expectations increase by slightly more in response to gasoline price changes than implied by their expenditure share.