Rational Bias in Inflation Expectations

Robert Murphy () and Adam Rohde
Additional contact information
Adam Rohde: Charles River Associates

No 857, Boston College Working Papers in Economics from Boston College Department of Economics

Abstract: This paper argues that individuals may rationally weight price increases for food and energy products differently from their expenditure shares when forming expectations about price inflation. We develop a simple dynamic model of the economy with gradual price adjustment in the core sector and flexible prices in the food and energy sectors. Serial correlation of supply shocks to food and energy allows individuals to gain an understanding about future shocks, possibly making it optimal for individuals to place more weight on the movement of prices in these sectors. We use survey data on expected inflation to show that the weights implied by the model differ from the expenditure shares of food and energy prices in the CPI for the United States. We find food price inflation is weighted more heavily and energy price inflation is weighted less heavily. But importantly, we cannot reject the hypothesis that these weights reflect rational behavior in forming expectations about inflation.

Keywords: Inflation Expectations; Core Inflation; Food and Energy Prices; Anchored Expectations (search for similar items in EconPapers)
JEL-codes: E30 E31 E58 (search for similar items in EconPapers)
Date: 2014-08-01, Revised 2015-10-25
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

Forthcoming, Eastern Economic Journal

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Journal Article: Rational Bias in Inflation Expectations (2018)
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Persistent link: https://EconPapers.repec.org/RePEc:boc:bocoec:857

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