1. Quantified perceived and Expected Inflation in the Euro Area
European Commission
Directorate General Economic and Financial Affairs
Quantified perceived and Expected Inflation in the Euro Area
How Incentives Improve Consumers Inflation Forecasts
Presentation by Staffan LINDÉN
Joint EC-OECD Workshop on International Developments of
Business and Consumer Tendency Surveys
14-15 November 2005
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2. Purpose
Investigate whether differences in incentives to collect information can explain the gap between the perceived and expected inflation rates, and the official rate.
Inflation is in general perceived and expected to be higher than the official rate
Present the data
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3. Outline
Costly information and how strong incentives to form expectations improve projections
Data
Stylised facts from the qualitative data
Comparison of qualitative and quantitative data
Time series properties
Perceived and expected inflation when there are incentives to collect information
Conclusions
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4. Main message
Incentives to collect information on inflation induce respondents to produce inflation rates that are closer to the official rate.
It is important to ask questions that are relevant, and that respondents have the information necessary to give informed answers.
The answers to the quantitative questions behave in a similar way as the qualitative.
The dataset is becoming unique, almost 400,000 observations just for the euro area
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5. The role of costly information
Hypothesis: incentives to collect information on inflation induce respondents to produce inflation rates that are closer to the official rate.
There is a trade-off between informational efficiency and the incentives to acquire information.
It is costly to collect and process information
If respondents have no incentives to do so, they will not inform themselves.
This leads to noise in the indicators.
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6. Three survey questions inducing people to collect information of inflation
Q13: How likely are you to buy a car?
Q14: Are you planning to buy or build a home?
Q15: How likely are you to spend any large sum of money on home improvements?
It is assumed that these activities gives respondents different incentives to obtain costly information.
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7. The Balance Statistic for perceived and 12 months lagged expected inflation
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8. Stylised facts regarding the qualitative data
There are structural shifts in perceptions and expectations after 1 January 2002.
There is a de-linkage between perceived inflation and actual inflation.
Perceived inflation is over stated after January 2002.
Perceptions have been converging towards the actual inflation rate.
Expectations are more in line with the actual inflation than perceptions after January 2002.
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9. Perceived and expected inflation in the euro area
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10. Stylised facts continued
Inflation perceptions and expectations fall as income increases.
Inflation perceptions and expectations fall as education increases.
Perceived inflation seems to increase with age, and expected inflation is hump-shaped.
Women perceive and expect higher inflation than men.
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11. Quantitative perceived and 12 month lagged expected inflation rates
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12. What are the findings from the comparison
Quantitative data gives the same results as the qualitative.
The euro area data replicates the results obtained using other similar datasets.
There has been a convergence process going on.
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13. Perceived and expected inflation when incentive to obtain information is different
The incentives are assumed to come from the purchase of a car, a house, or spending a large sum of money on home improvement
Figures to compare with
Overall perceived inflation is 11.6%
Overall expected inflation is 6.1%
Official HICP rate of inflation is 2.2%
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14. Perceived inflation rates depending on likelihood to buy or invest
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15. Expected inflation rates depending on likelihood to buy or invest
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16. Results from incentive induced inflation perceptions and expectations
The more likely respondents are to buy a car, a house, or make home improvements, the closer the reported inflation rate is to the official rate.
Perceptions: respondents that are ‘fairly likely’ are 0.9 p.p. to 2.4 p.p. below the ‘not at all likely’
Expectations: respondents that are ‘fairly likely’ are 0.9 p.p. below the ‘not at all likely’
The exceptions are for those respondents that are ‘very likely’ to do so
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17. Adjusting for sample size
The relatively high inflation rates for the ‘very likely’ are caused by outliers in the German data.
Small samples are over represented in the euro area aggregate.
Two combined solutions
Re-group the data into two categories
When calculating the euro area inflation rates, adjust for both country and sample size.
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18. Perceived inflation rates depending on likelihood to buy or invest – regrouped and weighted by size
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19. Expected inflation rates depending on likelihood to buy or invest – regrouped and weighted by size
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20. The levels are still above the official rates, but…
Results from incentive induced inflation perceptions and expectations – regrouped and weighted by size
The more likely respondents are to buy a car, a house, or make home improvements, the closer the reported inflation rate is to the official rate.
Perceptions: respondents answering ‘likely’ are 1.5 p.p. to 2.2 p.p. below the ‘not likely’
Expectations: respondents answering ‘likely’ are 1 p.p. to 1.8 p.p. below the ‘not likely’
The levels are still above the official rates, but…
…for expectations the distance is almost halved.
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21. Conclusions The quantitative data is of a high quality.
It behaves well according to the benchmark.
Incentives to obtain information on inflation improves the survey responses.
The expectations decline by as much as 1.8 p.p. (the overall rate falls from 6.1% to 4.3%, which still is above the official rate of 2.2%).
The gap to the official rate is thus partly explained
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22. Conclusions continued
It is important to ask questions that are relevant, and that respondents have the information necessary to give informed answers.
It can be useful to “cut” the data in different ways to improve the survey results.
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23. Relevance of the questions
For most questions in the harmonised questionnaires respondents have the information readily available.
For the questions on price developments, less so.
Different consumption baskets
Macro-variable that requires a lot of information to forecast
The more detailed the question, the more information is necessary
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24. Quantifying qualitative data
Three different methods are used
The Balance Statistic
The Carlson-Parkin Method
The probability approach
The Anderson Method
The regression approach
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25. Perceived inflation quantified by using the Carlson-Parkin and the Anderson methods
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26. Expected inflation lagged 12 months, quantified by using the Carlson-Parkin and the Anderson methods
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27. Perceived and 12 month lagged expected inflation - the Anderson method adjusted for the structural break
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28. Correlations between perceived and expected inflation, and actual inflation
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29. Comparison with other national datasets
The above mentioned stylised facts are present in similar datasets from the US and Sweden.
For income, education, and gender the results are the same.
It differs for age.
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30. Correlations between quantitative, qualitative, and actual inflation
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