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Pass-through from short-horizon to long-horizon inflation expectations, and the anchoring of inflation expectations

Summary:
BIS Working Papers  |  No 895  |  28 October 2020 by  James Yetman PDF full text (6,903kb)  |  31 pages Summary Focus Inflation expectations are said to be anchored if long-horizon expectations do not change very much in response to shocks. Then any deviation in inflation from target will tend to revert over time. This gives central banks greater flexibility in deciding how to respond to shocks without losing control of inflation. Contribution The paper uses the forecasts of professional forecasters to assess how well inflation expectations are anchored in a sample of 44 economies. It uses changes in

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BIS Working Papers  |  No 895  | 
28 October 2020
PDF full text
 (6,903kb)
 |  31 pages

Summary

Focus

Inflation expectations are said to be anchored if long-horizon expectations do not change very much in response to shocks. Then any deviation in inflation from target will tend to revert over time. This gives central banks greater flexibility in deciding how to respond to shocks without losing control of inflation.

Contribution

The paper uses the forecasts of professional forecasters to assess how well inflation expectations are anchored in a sample of 44 economies. It uses changes in forecasters' views of near-term inflation to identify shocks that are likely to affect inflation. If long-term expectations tend to move together with short-term expectations, then expectations are poorly anchored. By contrast, if long-term expectations remain stable even when short-term expectations change, then expectations are tightly anchored.

Findings

The paper shows that the share of economies with anchored expectations has increased over time. When we look to see why, we find that inflation targeting has played an important role. We also find that inflation expectations have remained well anchored over the last decade when inflation has been weak in many economies.


Abstract

We investigate pass-through from short-horizon to long-horizon inflation forecasts as a way to assess the anchoring of inflation expectations. We find an overall decline in the pass-through in our sample, with the share of economies having anchored expectations increasing over time. We then investigate what might explain the increase in anchoring. Inflation targeting plays an important role. Low policy rates and persistent deviations of inflation from target are correlated with a decline in expectations' pass-through. This suggests that longer-term expectations remain well anchored, despite recent low inflation out-turns in many economies.

JEL Classification: E31, E58

Keywords: consensus forecasts, inflation expectations anchoring

International Settlement
The Bank for International Settlements (BIS) is an international company limited by shares owned by central banks which "fosters international monetary and financial cooperation and serves as a bank for central banks". The BIS carries out its work through subcommittees, the secretariats it hosts and through an annual general meeting of all member banks. It also provides banking services, but only to central banks and other international organizations. It is based in Basel, Switzerland, with representative offices in Hong Kong and Mexico City.

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