Great Expectations: Performance of survey inflation expectations at improving model-based inflation forecasts

Meltem Chadwick and Tyler Smith
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Tyler Smith: Reserve Bank of New Zealand, http://www.rbnz.govt.nz

No AN2023/02, Reserve Bank of New Zealand Analytical Notes series from Reserve Bank of New Zealand

Abstract: This note explores which survey measures of inflation expectations improve the forecast performance of linear time series models for headline inflation in New Zealand over the period 1996-2021. We use inflation expectations from surveys of consumers, businesses and professional forecasters in a pseudo-out-of-sample forecasting exercise for headline inflation up to 12 quarters ahead. Incorporating survey-based inflation expectations data in linear models typically enhances the accuracy of headline inflation forecasts across different horizons. Among different survey measures, the mean of RBNZ 1-year household inflation expectations survey demonstrates the strongest predictive ability. For policy purposes, a range of measures of expectations are always taken into account, and many different measures contain useful information for policy. Key findings: - Inflation expectations are essential for effective monetary policy as expectations affect current pricing behaviour. - Our results indicate that forecasts for headline inflation that include inflation expectations are significantly better than similar forecasts without survey inflation expectations. - The 1-year mean RBNZ survey of household inflation expectations has the best predictive power for the headline inflation, although the difference is small relative to other survey measures.

Pages: 20 pp.
Date: 2023-06
New Economics Papers: this item is included in nep-mon
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