Finance and Economics Discussion Series (FEDS)

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May 2019

Inflation and Deflationary Biases in Inflation Expectations

Michael J. Lamla, Damjan Pfajfar, and Lea Rendell

Abstract:

We explore the consequences of losing confidence in the price-stability objective of central banks by quantifying the inflation and deflationary biases in inflation expectations. In a model with an occasionally binding zero-lower-bound constraint, we show that an inflation bias as well as a deflationary bias exist as a steady-state outcome. We assess the predictions of this model using unique individual-level inflation expectations data across nine countries that allow for a direct identification of these biases. Both inflation and deflationary biases are present (and sizable) in inflation expectations of these individuals. Among the euro-area countries in our sample, we can document significant differences in perceptions of the European Central Bank's objectives, despite having a common monetary policy.

Accessible materials (.zip)

Keywords: ZLB, confidence in central banks, deflationary bias, inflation bias, inflation expectations, microdata

DOI: https://doi.org/10.17016/FEDS.2019.042

PDF: Full Paper

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Last Update: January 09, 2020