A naïve sticky information model of households’ inflation expectations

Abstract

This paper provides a simple epidemiology model where households, when forming their inflation expectations, rationally adopt the past release of inflation with certain probability rather than the forward-looking newspaper forecast as suggested in Carroll [2003, Macroeconomic Expectations of Households and Professional Forecasters, Quarterly Journal of Economics, 118, 269-298]. The posterior model probabilities based on the Michigan survey data strongly support the proposed model. We also extend the agentbased epidemiology model by deriving for it a simple adaptation, which is suitable for estimation. Our results show that this model is able to capture the heterogeneity in households' expectations very well.JEL Classification: C11, C53, C82, D84, E31.

Heterogeneous Inflation Expectations and Learning

“…Previous studies have focused on the aggregate evolution of beliefs and mostly forgotten about the panel dimension of survey expectations (Keane and Runkle , Souleles , and Anderson are exceptions). Some studies (Branch , 2007, Lanne, Luoma, and Luoto ) study how different forecasting rules fit the expectations of consumers in the Michigan data set. However, they study only the heterogeneity of forecasts and do not actually model the updating rule of the same consumers in different periods.…”

Trend inflation and monetary policy regimes in Japan

“…For instance, Branch (2007) compares three reduced-form models of heterogeneous expectations and suggests that model uncertainty and sticky information are essential in modeling expected inflation. Lanne, Luoma, and Luoto (2009) show that inflation expectations are consistent with a sticky-information model by confirming that a significant proportion of households base their inflation expectations on past inflation rather than the rational forward-looking forecast. Pfajfar and Santro (2010) identify three different underlying mechanisms for expectation formation: a static or highly autoregressive region on the left hand side of the median, a nearly rational region around the median, and a fraction of forecasts on the right hand side of the median formed in accordance with adaptive learning and sticky information.…”

Household Inflation Expectations: Information Gathering, Inattentive or ‘Stubborn’?

“…model (2). In the first instances following Lanne et al (2009) andBrazier et al (2008) we include the naive household's rule-of-thumb ( t  ): , and obtain the following specification: …”