That’s because these expectations affect everybody’s decisions about savings, spending, and how much of a wage increase they may ask for. If people expect inflation to be high in future, they’ll likely ask for higher wages.
On the other hand, firms set their prices depending on their outlook for inflation and wage levels.
So individual workers and businesses views of expected inflation influence overall inflation.
In a newly published Analytical Note, Senior Economic Analyst Gerelmaa Bayarmagnai looked at how New Zealand households’ inflation expectations respond to changing prices — what inflation is now and how that shapes what people think it will be in future.
The Note found that household inflation expectations are more sensitive to inflation when it goes above 2 to 2.5%. This means that households care less about inflation when it is low and pay more attention when inflation is high, and it is affecting their cost of living.
Inflation expectations line up better with actual inflation when it is high, and so expectations may respond less to interest rate policy signalling. This may make it more difficult for policymakers to keep inflation expectations down when inflation is high.