BUNDESBANK EUROSYSTEM | DEUTSCHE Discussion Paper Deutsche Bundesbank No 17/2023 The pass-through from inflation perceptions to inflation expectations Stefanie J. Huber (University of Amsterdam, Tinbergen Institute and University of Bonn) Daria Minina (Amsterdam School of Economics and University of Amsterdam) Tobias Schmidt (Deutsche Bundesbank) Discussion Papers represet necessarily reflect the vie authors’ personal opinions and do not of the Deutsche Bundesbank or the EurosystemEditorial Board: Daniel Foos Stephan Jank ‘Thomas Kick Martin Kliem Malte Knuippel Christoph Memmel ‘Hannah Paule-Paludkiewicz Deutsche Bundesbank, Wilhelm-Fpstein-Strafe 14, 60431 Frankfurt am Main, Postfach 10 06 02, 60006 Frankfurt am Main Tel +49 69 9566-0 Please address all orders in writing to: Deutsche Bundesbank Press and Public Relations Division, at the above address or via fax. +49 69 9566-3077 Intemet huip:ésvaww.bundesbank de Reproduction permitted only if source is stated. ISBN 978-3-95729-948-2 ISSN 2749-2958Non-technical summary Research Question In this paper we analyse the link between individual’s perceptions about inflation in the past 12 months and their inflation expectations for the next 12 months. We are interested in understanding how strong the pass-through from perceptions to expectations is in times of high inflation compared to times of low inflation and whether the strength of the pass- through differs across groups of individuals, Contribution We contribute to the literature on the expectation formation of households and individuals. Using an information provisioning experiment in the Bundesbank Online Panel Houscholds (BOP-HH), we are not only able to investigated the relationship between the two concepts, but also establish a causal link from perceptions to expectations. Our paper also goes beyond existing studies, by looking at short- and long- term inflation expectations (5 to 10 years ahead), Using the panel structure of the BOP TIT and data until December 2022, we are able to compare the strength of the pass- through in high- and low-intlation periods Results We document a strong and statistically significant pass-through from inflation perceptions to inflation expectations of individuals in Germany. The relationship is stronger for short-term than for long-term expectations and during periods of low inflation compared (0 periods oF high inflation, We Turthermore show that the strength of the pass~ through varies by sociodemographic groups, We identify nwo critical moderating factors for this heterogeneity; differences in individual uncertainty about future inflation and information acquisitionNichttechnische Zusammenfassung Fragestellung In dieser Arbeit untersuchen wir den Zusammenhang zwischen der von Privatpersonen wahrgenommenen Inflationsrate in den zurdickliegenden 12 Monaten und der erwarteten Tnflationsrate in den kommenden 12 Monaten, Uns interessiert dabei, wie stark der ahmehmungen und Erwartungen in Zeiten hoher Inflation Zusammenhang zwischen im Vergleich zu Zeiten mit geringen Inflationsraten ist. AuBerdem untersuchen wir, ob der Zusammenhang iiber unterschiedliche Gruppen von Privatpersonen hinweg. variiert. Beitrag Unsere Analysen leisten einen Beitrag zur wissenschaftlichen Literatur uber die Frwartungshildung yon Haushalten und Personen, Wir zeigen mithilfe cines Experiments im Bundesbank-Online-Panel-Iaushalte (BOP-III1), bei dem Befragten die tatsachliche Inflationsrate in der Vergangenheit genannt bekommen, einen kausalen Effekt von wahrgenommenen auf erwartete Inflationsraten, Fin weiterer Beitrag unserer Arbeit ist, dass wir neben Tnflationserwartungen fur die kurze Frist auch Erwartungen fur die lange Frist (nichste 5 bis 10 Jahre) betrachten. Mithilfe der Paneldaten des BOP-HH, die bis cinschlieBlich Dezember 2022 reichen, kénnen wir Zeiten mit hohen und ingen Inflationsraten vergleichen. Ergebnisse h signifikanton Elfekt der wahrgenommenen aul dig erwartele Inflationsrate gibt, Der Wirkungszusammenhang ist starker fur kurzfiistige als flr langftistige Inflationserwartungen sowie in Zeiten geringer Inflation im Vergleich 2u Zeiten hoher hland einen starken und statist Wir finden, dass es flr Privatpersonen in Deu Inflation, Wir finden auch, dass die Stirke des Zusammenhungs ber sozio- demographische Gruppen variiert und dass dies zumindest zum Teil der Tatsache geschuldet ist, dass bestimmte Gruppen von Personen eine hohere Unsicherheit hhinsichtlieh der zuktinftigen Inflationsrate an den ‘Tag legen oder unterschiedlich gut uber die aktuelle Inflationsrate informiert sind als andere:DEUTSCHE BUNDESBANK DISCUSSION PAPER No 17/2023 The pass-through [rom inflation perceptions to inflation expectations Stefanie J. Huber* Daria Minina’ Tobias Schmidt’ Version: June 19, 2023 Abstract ‘This paper documents a strong relationship between households’ perveptions about inflation over ‘the past 12 months and households’ short- and long-term expectations about future inflation, This relationship is strong during periods of high-infiation but even stronger during low-inflation periods. We establish w cansal relationship by implementing a randomized information provision experiment ina large and representative survey to generate an exogenaus varation In inflation perecptions. ‘Our results show that household perceptions about past inflation «ive their expectations alsout future inflation rates, The strength of the pass-through from perceptions to expectations varies cross socioeconomic: groups, We identify two eritieal moderating factons for this heterogeneitys differences in individual uncertainty about future inflation and information sequisition. Further, wwe show that the large majority of households rely on their shopping, experience when forining thelr perceptions about past inflation and pay pazticular attention to food and fuel prices. The shopping expericnee affects inflation expectations indizectl:—through pereeptions. Keywords: inflation elynamies, expectations, perceptions, uneerlainty, household finanee, monelary policy, sunlomized eoutsol tia JEL, Classitieations: DIG, D&1, D90, T31, E52, 40, Gath ‘We have benefited from cominents by Refet Glial. Nathanael Vellekoop, Minko Wiederbo, and Jobamses ‘Wolllaut, We aio would ike to chauk participants ot the 202% Baceeua Suunier Foruu, te L0ch Watkehops fon Enis! Maueary Reinom icy al OPCER in Pariy Ue sh SUBEEP Collagutan andl 4th aN Anwuad Feonomie Confersnes on! “he Uehirn of Inflation’? in Wien the Boel WIEATLE FN Mlacrocermornios and inance congerence at the LIS in Lissl, the Soventh International Nesting om Experimental and Lehaviorst ‘Social Scisuess (IMEBESS) iu Lihau, the 2022 Nedstluudee Ezonoaieuday (NED) in The Higue, the Apail 2022 Flouseholl Finance cand Consumption Network (HFCN) rewarct seminar, tne De Neerianusctye Bank (DNB) research seninar, the Deuarhe Hinrdesinks Brown Ri Seminay, and at the CaRDEP snd Klint, Rorwen Rag Seminars st the University of Amsterdam, for comments amd siggestions, The views and opinions expressed i ‘this artile exe thooe af the authous aud do not aoooscauly vellet the view of the Deutsche Bundesbank a: the arose, © Carrssponcing, ther. University of Anmsderdam Rocterssiraal 11, 018 WH Anmterdain, ‘Phe Netherlands ‘Hinbergen Instieute, and Linversity of Lin (Reinard Seleen Insite, Nicbnitstr. 5, 53113 Bonn, Germany Exmail ¢jdtubet‘iusa.al 0 sbubsrttuni-bonn de Tamaterdaen Schon! of Feonomis, University of Amstentan, Rema: .mininn2@n. © Daautsche Finleshosk, Research Center. Females hidtnesbans1 Introduction Perceptions precedes ready.” (Avely Warhol} Aller decides of low inilation in Ue developed world, inllation has been increasing: significantly over the past months jn mange countries, Various: reasons ane cited for this increase, including’ supply shorkges, he UkraiuesIussian wae, and stronger dead dive to exceptionally high savings sccunulated by households during the Covide19 prance, Academies and central bankers alike Ceophusive the critie] role of inflation expectations for actual inflation (Piore etal, 2022).4 Already in the time of the effective lower hound, managing inflition expectations was seen as one of the few ways to influence intlation, Nowadays, in times of high infstion rates, central banks globally ‘sim to “anchors” and manage inflation expectations through communication, However, itis still a perennial question of whither sud how households’ expeetatious reaet ¢o communication and more enetally, how households form thei inflation expectations.” The existing research focuses primarily on expectation bias ss aunt heterogencity: based on s0= civevononiie chiracteristies (Avioli et al, 2017); Del Giovane ot al, (2008); Weber ot al, (2022)} "The literature: documents nonerat nality, substantial Foreenst errors (IBinder £2017}: Cavallo et al (2017)}, high disagreement, and the infnence of persrmal experienees (Angetien and Di Giacomo (2019); Matmnendlier ot al (2 P21). Tence, a large body of empirical work documents pronounced deviations from full-information rational expectation: (Coibion et al, (2018a}), Recent research, shows that households use simple heuristics to forma expectations, involving a significant backward- loolsing: component {Hommes (2021), Petersen and Mokhtarzacleh (2021)) This paper aims to investigate what role inflation perceptions play in the expectation formation process, If houscholds rely heavily on their own perception of the past developments of prices ‘managing pereeptions may be a way'to influence expectations. ‘he influence of perceptions about. the development of past inflation ow inflation expectations has altracted little attention in the literauase, Only a handful of papers document a positive correlation belavera lnsthold’s perceiver and expected {twelve months the) inflation (Garsier ane Montornés (2022) for France, I*Acunt “Inflation expectations are uowadlays central for the analysis of monetary policy in macroccoupmie mudels {CD-president. Christine LLagntdle, stated in QDI that “for the acsnal process of secting wages and pris, #t is the expectations of the pblic that maiter most.” While the empirval evidence is mixed, ncn empiri view, Valokoop and Wiederbolt (201) find that houselolds with higher iullation expuetations save less and are more Tkely to buy expensive cars and Duea-Radu of al. (2022) provide evidence that European, conmmers ineresse their readiness to spencl when they anticipate an increase tn inflstian. See far example Foul Chairwoman Janet Yellen £201) sexe: doze about te aoumer in which inllation expectations ure Jorused aud how mouotary policy inlluen thom’, ECB Vice-President Vitor Constancio (2017) Ins expressed a similar view: "For policy-makers, this [recent researah] aaains to engzest that there ie au important tale of the central hamit in shaping the expectations af the get {Gali (2008)). On the policy relevance of inflation expectations, the eurre ark supports his haps mest importantly, we wes to kenw Public, not only tht of tinaneial markets. Halse suggests that more reseaneh is ceded to understand the different factors that shape the inflation expectations vf individual households.”cot al (2021a} sme Cavallo et al, (2017) for Uwe US, Avioli et al. (2017) for the KU, Boseh otal (2015) for South Africa}. Using Sweelish data, Jong (1981) and Drger (2015) specifically look at the relationship between perceptions and expectations. Our paper follows the latter tn papens and investigates the relationship between inflation perceptions and short-term expectations, Tt goes heyond those, in investigating the vehationship hetweer inflation perceptions and long-terns expectations as well. A topie partienlarly relevant for monetary polieymakens worried sbomt second round effects and the de-anchoring of infiation expectations ‘We use micro-data from the Bundesbank Online Panel Households (BOP-HH} on individuals ir Germany. ‘This survey coutains rieh data om inflation perceptions and various measures for short and long-term inflation expectations. ‘The panel dimension allows studying how the withia-persor, vnvintion ia ialation perceptions fovels into expectations. ‘Lh establish a causal relationship, we implement w raniomizeel eouleol Leial (RCT) approach inv Ube August 2022 wave of the BOD-HEL survey to induce exagenous variation in households inflation perceptions. To shed move Tight or how households form inflation perceptions about current and past inflation, we implement new snurvey questions in the April 2022 and July 2022 survey wares, ‘This paper contributes to the literature on inflation expectation formation by highlighting, six main results, First, we build on the literature om the perception-expoctation link (D"Acunto et al. (20210) allo ot al. (2017), Avioli ct al, (2017), Bosch ot al, (2013), Driiger (2015)}, and confirm, 8 strong positive and significant correlation between households’ inflation perceptions and short term inflation expeotations (next 12 mouths), as was ideutified in the seminal paper by Jouung (1981). Our paper is the fxst to establish evidence that houscholds' perceptions about past inflation causally drive houscholds’ expectations about future inflation, We randomly assign the survey parlicipmuls Lo infornmtion Liculaneats aud study Uke cansal effets of Une result ing cham in inflation perceptions on their inlhition expectations. More generally, onr paper contsibvatess by expanding the literature that mses large-scule surveys to stacy Snfarmation provision on ination: expectations* To the hest of onr knowledge, we are the first to do this in the contest af intlarion perceptions. Socond, the existing Literature has focused exclusively on the relationship between perceptions and short-term inflation expectations. Our paper goes beyond this by investigating the relationship, between households’ Inflation perceptions and thelr poliey-relovant long-term Inflation expectations [fand 10 years abeal). We find that households use thei uubjective assessraci of the d SA one pereentage point increase im inflation perceptions is ssanctated with an approx. ON pp increase in Sher uecin llsion vexpectatians—inde pen ent of bye mete specication considera “These survey experiawats investigate drivers fur iaflativ expectations, covering iuformation teatimen fom eontzies’ Escal outlooks (debt, deficit) by Coabion et al. (2021), moustary poliey communication by CCofbjon et nl. (2022), and praissiomal foreests by Armantior al. (2016).Of inflation over the last velve months (ie., inflation perceptions} mat only to form thei shost= tenn expectations, but also consider it chen forming their long-term expectations. Long-term expectations are direety end indirectly, via the effect on short-term expectations, influenced Ie households’ inflation perceptions. Given eur result of w casal and eeonomically meuningful effect of perceptions on expectations, it is essential to understand iow honseholds form their perceptions about past intation. We contribute tothe field by adding several novel questions to the BOP-IIH survey. We find that prices of frequently bought produets (especially food and fuel) ate at the foretiont of respondents? minds when assessing average inflation over the last 12 months. ‘The overwhelming majority (10% } based Lneir inflation pereeptious on their shopping expericuce (and not on infurmation they have heard! or veal). "This esi holds independent of whether the respondent. has read or read something alsout inlhition recently.? Our thied contribution relites Lo the likeralure or the iampertanee: of salient prices of frequently bought goods for housebwolds’ Snflation expectations (I)’Acumta et nl. (20210): Kaplan and Schathofer-Wohl (2017)). We show evidence that the shopping experience effect on expectations is an indirect effect as it works through perceptions: Fourth, we add to the literature by showing that the strength of the pass-through from in flation perceptions to inflation expectations depends on the inflation environment, The existing, literature, eg., Cavallo ot al. (2017) investigates empirically whether the expectation formation process differs depending on the inflation context (by comparing @ low-inflation environment, the US, with a high-inflation environment, Argentina), Cavalla et al. (2017) argue that individwals in low inflation contexts have significantly sweaker priors about the inflation rate (e.g. sely more on their peseeptions of past inflation when forming expectations). We investigate Le role of the inition cuviroaical. by focusing on one country using prune dala, In Germany, we find Ubi he Dasethrough from inflation perceptions to short-term expectations (unl lo orm expectations? is quantitatively important in periods of high inthition (aiter July 2020), and even stronger daring, petiole of lowe ination (betone July 2021)." "In July 2021, 44% of the respondents liad heard or read something sbout inflation over the past four weeks. ‘The inflation rate incressed significantly over 2022 by the and of 201 wars more bhi six percentage pati higher than in July 2021. Cansaucntiyy the typirsnffatin apposed sch cuore frequently in the news, As result, in Novenber 2022, aluust 90% of the survey pastivipauls report to Hid heard or read souie information about inflation i the last month, Tt is striking thet che faction of hontseholds uring the shopping experiance instead of medfa ewe remained the same over this time. Tv duly 2021 and) November 2022, almost 90% af the interviewees reported using, their sbapping experience Uo forum perceptions about past inflation, Our result is consistent with tle theory of rational inattention, During times of losy end stable inlae tion, hanseholds cio not search for information about the current and fiicnre inflation tate (searelsing for information ig enstly} ane rely on theie shopping experience. They simply extrapolate fram thei pereep tioms of ewrent and past inflation to Form inflation expectations, However, in limes of high or varyin inflation, the cost-benefit analysis changes. The cust of acquiring information about inflation decreased significantly ss: news covers increased significantly. Lonseholds might rolleet move information to form Inflatian expectations and rely less cn their perceptions about past inflation, the overall CPI inflationFifth, this paper contributes to the Titorature studying expectation Biases wud Ieterouenvity ‘used an socioeconomic characteristies (Avioli et xl. (2017); Del Giowane etal. (2008: Weber etal (2022)). We find heterogeneity in the strength of the passthrongh the strength differs newoss socioeconomic groups. Women, residents of Bast Germany the emploved, and incividuals rouiger {an 60 years old rely to a larger extent on their inflation perceptions when forming inflation expectations thant other groups: Finally, this paper investigates the underlying, reesons for this heterogeneity im the strength of the ps through among socioeconomic groups, We discover that individual uncertainty’ about future inflation affeets the pass-through fiom perceptions to expectations. “The more uncertain the household, the moze the household relies on per eptions about past inflation when forming cxpectations about future inflation, Ln addition, we find Unt households with a more substartin! pasctittonah report using Llvie shopping experience Lo form inflation perweptions (iuslesd of using information they haw lard or rel). “There 5s an extensive debate in the literature on which type of theoretical more best deserSbes the expectation formation of economic agents, A model from the noisy information class can explait ‘most of our findings (Coibion and Gorodnichenke, 2012; Sims, 2008; Vellekoop and Wiedesbolt 201s; Woodford, 2008), In particular, we take the model described im Vellckoop and Wiederholt (2019b} with annor modifications and show that the zesults of cur paper fit naturally within this framework, Ju summary, this paper shows that perceived inflation plays a crucial role in forming inflation expectations. ludlividual inflation uncertaiaty 3s an essential determinant of the strength of this relationship. ‘Phe results of our RCT survey experiinent show that providing information about the inflation rate over tlie past twelve nrontbs levels bouseliolds to aeljust their inflation perceptions: his change i infhition perceptions: kids honseholds to revise their expectations abot fabures ine flution, ‘These findings are relevant for policy. They suggest that in seeking to menage amd anchor inflation expectations, central bankers could beneficially spend further effort im monitoring, n= derstanding, and managing inflation perceptions. Central banks might profit from creating: an communication tool by which they address households to "eorrect" perceptions of past inflation (and, by that, inducnee inflation expectations}. However, it might be challenging for a eoutral bbank to reach ancl proviele houscholds with information about past and current inflation. In such a caso, our result that, houscholds’ shopping experience and prices of frequently bonghb products are critival for bonseliolels inflation perceptions seems essential, Hk suggests ual howseliolds’ inflation: perception would inevense if current inflation is preclominantiy driven by food sand energy priees, Ass houscholds! expectations are exteapolated fom perceptions, we conclude thal an inflation envicon=rent Ut is driven by salient price ele es provide rss for decanchoring honebolely short-term and longterm expectations fram the inflation target The remainder of this paper ix orgunizad ns follows, Section 2 describes the data. Section 3 investigates the relationship between households’ inflation perceptions anid short- and long-term expectations. Section 4 diseusees the implementation of the ROT informacion experiment wnd summarizes the main results. Section 5 sheds light on how honseholes form their perceptions alsout inflation over the past twelve months and investigates the moderating factors Zor the heterogeneity in the pass-through among different socio-economic groups. Fuually, Section 6 discusses the policy implications of our findings and concludes. 2 Data We ase microdata from the Thindeshanls Online Panel Touseholds (HOP-ITT) on individuals in Germany. The survey colleets monthly data om indivicals’ expectations regarding « large variety of economic indicators, among them inflation,’ We use data from all 36 awaves of the survey spanning a period from April 2019 to June 2D19 and April 2020 to December 2022. Tn total, more than (8,000 individuals participated in the survey, some of them several times, yielding: around 143,000 observations, Given that not all questions we need for our analysis are asked to all respondents in all waves, our estimation sample reduces to 75,000 observations, ‘The goal of the paper Is to study the link between inflation peresptions and inflation expacta- Lions of consume ‘The BOP-HH survey is particularly suited for aur analysis for several reasons: Fir iL unt only contains several micasures of inllation expectations (qualitative, quant itatives probubilstie)®, bak abo a siassire of faflation pereeptions. This question appeared in the sine" every quarter before 2021 and since Junmary 2021 every menth, In partienlar, respondent: ane asked the following question about their perceptions "What do you think the rate of inflation or defation in Germany was over the past twelve months?" and the corresponding quantit inflation expectations question: "What do you think the rate of inflation or deflation in Germany vill be over the uext twelve months?” ‘The respondents ore romdozaly selected from an acces ‘with internet acess. ‘The gross sample is sn co be representative slong the dimensions age. gender, edneation andl veagion. At least 2.000 respandents participate in the survey every snonth. For details or Ue methoriology se Beclmsine sul Senile (2020), "The survey includes several measures for inflation expectations. First, eespodente report if they exp inflation or deflation in the next twelve months. Second, BOP-IUT asks consumers short the developissent of the inflation rate over the next twelve months on a scale fiom "decrease significant significantly". Third, responnlents repart joint inllation forucast- ower the siext Uwvelve sant Foal, respondents ure asked tu assign probabilities Lo predetermined intervals of inflation. There is uso qnantitative menare of the long-term inflation expectations (5 and Il years ahearl). The exact woecing of the survey questions is presentad in Apmendie A.Second, te BOP: 1H fans x panel dimension, which alkawes us te sturly Ue relationships between inflation perceptions and esspectations taking into account fixed unoterved indivichual characterises, Third, the survey offers a wide variety of socio-eeonamic characteristics of each respondent (gender, region of residence, age, employment status, income, education, ete). Fourth, it allows to acd specific questions and modules with ranlomiee! contral trials (ROT) approaches to selected waves. We enrich the survey data with aggregate information and collect monthly CPT indices; the overall Harmonized Index of Consumer Prices, the CPI on energy, the CPI excluding food and enewgy, and the CPL on net. rent. Construction of the key variables: (Our ker wriables of intrest are the perceptions about the infistion rate in the past twelve months, ‘the short-term inflation expectations for the next twelve months, and the long-term expectations for the uext five/ten years. We take the espouses from the questions listed in Appendix A, and correct the meastues for outliers, “To be moze precise, observations with inflation expectations and perceptions greater than 30 or lower than -5 percent are excluded from the analysis To measure incorlanly about. fabure inflation al ¢he individual level, we ase the probabilistic inflation expectation question, Respondents have lo assign a probability lo leu distinct intervals of inflation, We compute the warianoe from the answers as a measise of ricertainty, We use this indicator to study the effect of individualspecific inflation gncertainty on the pass-through from: inflation perceptions to expectations, “To stuely potential differences in information aquisition between individ uals, we contributed uly 2 1) af threw questions to wave 17 TOP-IIT survey. The first question asios consumers to state how the prices for nine main eategories of goods and services changed over the past 12 months. The scale for this question consists of five categories from "decreased. significantly” to "increased significantly". The second question is a follow-up question that picks up the previous auswer ou respondents’ perception of the development of prices for essential goods over the last 12 months. ‘Phe question then asks ouschalds whether Lluey based this assessunent more en tele own shopping experience or mee on things Hiey lowe lieard or read (ca, in Lhe media}. “he last question asks if consmuers obtained any inforeuation about inllation recently. We repeated the second andl third questions in surwey wave 35 (Novernber 2022}. The exact wording of the wdded information questions ix provided in Section 5 and Appendix & To further mderstand how households form their perceptions of ination aver the past twelve "These indices are taken from the Germany Pederal Statistical Office, and presented in Appencix Table Hl: the indicators reflect infltinn relative to the same manth of he previous rarmonths, we contributed a question to wav 28 CApril 2022) of the BOP-ILEL survey. ‘This question is follow-up question to x question on respondents’ perception of the inflation /dellation nate over the past twelve months. The follow-up question asks respondents to rate the importance of nine factors for their previously given point estimate of inflation perceptions, including factors like the evelopment of food, fuel or honse prices andl discussions with friends ar collegues (See Appendise A for details Finally, we conducted an information provision experiment in survey wave 32 (August 2022) to establish the causal effect of short-term inflation perceptions on inflation expectations, The RCT. survey experiment is discussed in detail in Scetion 4, Appendix 6 provides the exact wording of Lhe Information treatments as well as the post-treatment Inflation perceptions and expectations questions. Appendix B provides # unanary stalisties of Ube variables used in Chis cseriptive and paper: see Appendix Tables BL and 22. The Perception-Expectation Link Figure 1 displays the time series of inflation perceptions and short-term inflation expectations. Lullation expectations exceed yrercopLions its ull bul Ul last ter waves. UL is string how elewelye perceptions and expectations move togethers the tine series look very similar !° Figure 1: Dynamics of mean inflation expectations and perceptions Sources: Buncesliank Online: Panel Howscholels (ROP HH). Rxpectations ani perceptions: Weighed) ducais, obsorvatioas (suneated Lo iatezval [5s | SO] "ixppendie Table BT veparis simmary alatiaties for these variables, as well as for long-term inflation ex pectations aver Ue mext 5 and 10 years, Apuendix Figure BL shows the Cae series of aredian inflation perceptions and media shorltern expectations. Appendix Pigure Bb displovs the sample distribution, for the key variables of interest: inflation perceptions aver the lnat 12 months, ahort-term inflation expec- tations aver the nex. 12 manths, ard long-term inflation expectations aver the next § and next 10 years, For cach variable, Appendix Figure Ba shows (he disngcuvment arnomy the resppndents (aiessused by the standard deviation) for each survey wave. Appendix Figure BS shuwrs the distributiow of households’ perception errors (ie. the sferense hetween inflation perceptions and actual avetall CPL infstion),3.1 Short-term Inflation Expectations "To anulyay Ue Tink belween houselilds’ inflation perceptions and lususeholels expectations, we cstimate the following baseline model by OLS (ordinary least squares): bre sera) = Bot Xa | HP | Hs cee au 1-si-19) denotes the inflation rate household i surveyed in wave { expects for the next 12 months; measured in percemlage points. Xj, denotes a vector of controls for individual ¢, wel vvavies with he specification cousideved. In the baseline specification, te individual characteristics included are geuder, ge, age squared, Leusehokl incor: deciles, educational ullatin nent, eayploy= rent status, and a dummy’ for residence in East Gertauny. ‘The East chunimy absorbs nnobserved is our wiriable of interest, horse time-invariant differences betuven Fast and West Germanys! R, hold’s # petoeived average inflation rate over the last 12 months; meseured in percentage points. Fy clenates the sarvey-wave fixed elects to control for systematic tinw trends, ‘These fixed effects capture differences between survey waves that are identical for all participants within one wave ex. the ordering of the questions within the survey), but also capture potentially relevant events and shocks that occured in Germany in a given month (e.g., monetary policy announcements, statistical data release, ete}, Note that these fixed effects comtzol for the mouthly actual CPY inlla- tiow rate, Lhe inflation rate is identical for all survey respondents withim one wave but vazies across, waves. Henec, it is wot surprising that including the actual CPL inflation vate in specification (3.1) instead of the fixed elfeets docs not change our results (Appendix ‘Tible BY). ‘The ermor teri is clenoted by sic. "Phe results presented! throughout the paper use: the Hicker uber-¥V'hite CEHW ret hod to estimate stancird errors, but are rabust te) using: chistered standard errors at the the individhnal level instead, Colums 1-4 of Table 1 report the estimation results. We find a significant positive relationship [p < 0.001} between households’ expected short-term inflation over the next 12 mouths and house holds’ perceived inflation over the last 12 months. Adding sequentially ov control variables docs not change this result; the size and significance level of this relationship remains unchanged (Cols 1-4). A one percentage point increase in households’ perceptions is associated with. a 0.74-pp increase in expected short-term inflation (Col. 4). ‘Ibis effect is quantitatively large, "Goldfayn-Frank and Wohlfart (21a) shaw thet Bast Germans expert higher infstion than West mans deradles after vennitication Appeuuix Figure BG displays the OLS regression evellicients of model (3.1} for wach surves ually and shows that the rclatzouship bebwoes inflation pereeptions oud short-term inflation is positive andl sizable in all. waves. save inlti thw second specication, we wxplit the panel dimension of oar dali ancl estimate Une model (3.1) using a fixedbeffoets as well as x randomvetiocty regressions. ‘The panel dimension allows studying how the within-person varistion in inflation perceptions fas into expectations, nd thus provides stronger evidence for @ causal relationship. The panel specifications are advantageous as Lunotyerved time-invariant difference acre incividuals sre controlled for. Columns 5. 6 of Table 1 show the estimation results, ‘The panel regressions confirm that infiction perceptions: have s positive, sizable, and statistically significant impact on short-term ination expectations, Tn a third specification, we conduct a difference-in-dliffcrance (DID) panel regression: AR (sur) = RAN + HAP H8 (3.2) wlan Al fre sey.2] denotes the change in houvehole’s ¢shorl-lerut inflation expectations (dil ference between household's 7 point estimate in wave £4 Land in wave #) and AB, denotes the change in household's ¢ peresived average inflation rate over the last 12 months. Potential changes in households’ socioeconomic characteristics are captured by AX,«. The drawhack of this DiD) regression (Col. 7) is the loss of 87 percent of observations compared to our baseline specification, shown in Column 4, because we requize respondents to be observed in two subsequent waves, Finding 1 (Inflation Pereeptions and Short-terra Expetations.), Households’ inflation perceptions Pry over ite last 12 months have a positive, lorye, and significant effect on households’ inflation expectations over the nesel 12 months Bam. see2) Depentent variable: Short term Inllation Expectations (nent 12 monthey OLS OLS OLS OLS pal panel pacd FE RE Aad w ey a 6) (o) perceptions nssist asa nsanet= arse oyun arse anszset (0.0956) ost 12 aeulles) (0.00554) (CL008183 (0.0056) (0.00836) (0.00790) (0.000 Wave dmmies - = - + - = > trols - . Ta) TST OST 08 S86 Gls SIT ts pans Notes: Colas Ft epost OLS witasies, The etiules fvay Ue pasel Gael oie versa say svn a Colusa 5. the eatin feat the pel sacs ee seenion ty Cala Cela T ree Le eats Got ew pace thangs on chien regession. Panel fol nnd ransomeefontstoymesions ato caine on the aanp's of hotanhalde es Par he pel segs we epost within Siguiieane levee *° pedal, * pe0 DL, pedis. Wave contra insincere wave, Sock lnkapraphie vu lade gv, tana we, enc fre risa by the tistics survey aon: Wha so yo eink the tat of inion wll ong be oer TE monte? Piseephions ane mere fy Bie epsive enr'y quate “Wh rye thie the wale irl or deletion Geert wea oe the pat 1 ruth” Perceptions and cxpertations eines! [Ses ‘The data span seascs IM of che sure (Apa = Sine 2018, Api MBO - Deeembor 1022), Table 1: Tnflation Perceptions on Short-term Expectations,A strong like betwen perceived cursnt inflation and expected fit inthtion is eorastent ‘with naigy information model (eg... Vellekoop and Wieeerhole (2019); Coibion and Goroxtuichenko (2012). Woodiord (2003); Sims (2003). To rationalize our findings, we use and extend the model of Vellekoop nd Wiederholt (2019) According to this model, hanseholdls forme inflation expectations every period, follenving # perceived lave of motion of inflation: m= = phen pra + (33) where my denotes the inflation rate in period (and y denotes the wutocosrelation eoellicient runing from (<1, 1}. ‘The constant is denoted hy © & Rand xt ~ iid. (0.02) denotes the inflation shock in period f. Such an AR(1) form of the perceived law of motion is often sed in the rations] {inattention literature, In addition, itis supported by multiple Inboratory experiments investigating, ‘the expectation formation of economic agents (e.g, Petersen and Mokhtarzacleh (20213; Amufriew 00g )).% and Hommes (2012); Heemeljer et al, ( At the time of forming an expectation, current inflation is not yet known, Instead, household # receives a noisy’ signal oj, with Sie Hey (4) where amy denotes the actual inflation rate in period t, and ¢,4 -¥ 1id.N{0,02) denotes the noise in the signal, which consists of am aggregate and an individual component, «+ aggregate component,é;, could be interpreted as the noise resulting from eg, media reports about inflation. The idiosyncratic noise, ¢;;, might stom from individual differences in limited attention or different information sources used to receive a signal (1... varylug individual consumer baskets}. Curreat inflation m is unknown in period ¢, Household é uses the steady-state Kalman filter Lo uowuast inflation in period #. Hence, honsehold 7 expects current inflation Lo be given by Elodie = ells ana] + Bisse = Msade where K denotes the Kalman gain, I, denotes consumer s information set in period t, and i. E|mildi.—] is the difference between the actual signal and the expected signal. Using equations (3.3) and (3.5), it follows that household #°s expectations abomt future inflation are given by alhal = ple pinata (36) Plugging the noweast of the carrent inflation (3.5) into equation (3.6), we can finally describe the Hommes (2021) provides anv oxeoliont review of this terature la the oviginal adel of Vellekowp and Wiederbolt (2019), tbe a ream 4s. We sot, equal to zero because it does not affect the moehasistis described in oue paper cogate noise has @ nou-vero subjective 10Formation of inflation expectations by Bisel = (1 ple + pl — KE [md yal + pK say, (ari ‘Note that the regression equation (3.1) corsesponds to the model equation (3.6), Tn the eontext ofthe model, inflation pereeptions , equal the noweast of inflation, and the inflation expectations are formed. using the perecived law of motion of ination. Our key coefficient of interest in Table L corresponds to the persistence parameter of the perceived law of motion. of households (p) 3.2 The Low versus High Inflation Environment During the time period April to June 119 aud April 2020 to July 2021, the German economy Coxpericneed a stable ancl low inflation rade equal Wy 1.1 an average and with a skamnard deviation: of0.83. Vor the Lime period fram July 2021 to Decesber 2022, the avernge inflation rate: was sues higher and equaled 6.7 with « standard devintion of 2.2. We split the sample into x low-inilation Chefone July 2021) and highsinflation emvironment (aiter Jiaky 2021) smd rum the estimation for both sub-samples separately. Cohmns 1-2 of Table 2 showe the estimation results. We confirm ‘that the relationship is in both seenarios sizable and highly significant, However, the pass-through, from inflation perceptions to short-term expectations is stronger in low. versus high-inflation on vironments". Instead of splitting the sample, Columas 3-5 of “Table 2 report the estimation results: using, all survey waves, For convenience, Column 3 reports the baseline speeifeation of model (3.1) ‘To investigate the differential effect of perceptions in high- versus low-inflation environments, we include a durum variable in Colina 4 Unt is ecjual (@ ome for the high-inflation periods, aud vere otherwise. In Column 5 wwe adh Uns ieterwetion (exer be Chis diumny’ anel pereeitigns. We again find that househokis phie more weight on their perveptions when forrsing inflation expectations in the low versms high-inflation environment. Finding 2 (Tow versas Tigh Inflation Tnvinonment). The poss-téinangh from Aousehalda” infla- thom perceptions P., over the last 12 months to honesholde’ inflation expectatrons aver the nest 12 Elen is stronger during fow~ compared to high-inflation periods “Tables BS ond BY show that the poss-thrangl from inflation pescoptions tw long-term inflation expectae tions is also weaker in high-inflation environment.Dependent variable: Short-term Infiation Expectations belore all Sly 2020 Joy 2021 full sample wi 2) ‘ a) H percep Ta Ta — TI (past 12 months) (0153) (0.100) [o.Nn836} _[U.00836) (0.0150) high inflation BVT 1a (0.106) (0.131) perceptions > high inflation vase (0.0180) constant \ 1 ' ‘wave euummies + ' + contro ' ' t N summa Tusi6 Tus TSI Re OAS O47 USAT 0.551 Noles, Enns 15 wpa OFS catinaton Rela soni sour (Rl Buber Whi ane wpe pantie, Suis oe perma, * petti,* pet, Saco emgrapi: roth nha go ‘lee, household income, education, cutzent employinent status, egion, age, age squsted. ‘The dependent ari sble (short-term ination expeccations) 3s messured by the quantitative survey question: “What do you think the tate of inflesion will roughly be over the neat 12 mouse". Peveeptioas are measured by the 9.27 (2.8) eoutrin Dacember 2022), The cavarianee between perceptions Empirically, both Ube numeral asl Ue dencnninatee in v to Ube decavavo im thy poss-trough observed in Ue bigh-illation cuvirouuuens, Tutu3.3 Long-term Inflation Expectations "The previous sveLion establishes! sisung ate robust link betwee shiort-lerur inflation pereuptions ‘and short-term inflation expectations, Households’ inflation expectations may directly affect con- sumption decisions rnd wage demas, which in tue underpin firms” pricesetting. However, if houschelds perceive high inflation rates as Lenaporary, they may be lass likely (o demand higher vvoges oF adjust ¢heir consumption plans findamentally. In contrast, the opposite is Hkely to be tre if they expect high inflation rates to pensist. Monetary policymakers, worried whont these second-round effects and de-anchoring of expectations, are thus especially eoncemed about agents” medium: and long-term inflation expectations ‘The Bundesbank survey has two quantitative questions measuring long-term inflation expec tations, and the respondents axe randomly split between tiem: Question 1 (inflation over Hie new five years): “Hust waluc de. gow think the rate af iaflax om or deflation wilt take an anerage over the neat five yours? Anemers ff pervent Question 2 (inflation over the next ten. years): “What vale do you think the rate af inflation ‘ation will take or average over the mezt ten yeare? Aner: [..f peroent Appenstix Figure B2 shows the time series of mean (snd median) long-term inflation expecta tions, Tongerermn expectations have been relatively stale and anchored until Jarmary 2022. Since then we observe significant increases in both (mean and median} long-term inflation expectations in Germany, Yo analyze the Impact of houscholds’ inflation perceptions regarding inflation ia the last. 12 months on honseholds’ long-term expectations, we estimate Lhe following model by OLS (ordinary Fest seqares): whore F (5 ,] denotes the long-term inflation rate household i surveyed in wave expects for the next L years with Z ¢ {5,10}; measured im percentage poiuts. Hence, we consider two time horizons, the expocted inflation rato 5 auel 10 years ahead. The remaining variables are identical to the baseline specification (3.1). ‘Lhe specification (3.9) hnvestigates whether inflation perceptions By have a divect impact on lon, eran expectations. itively, it mess that when inflation i bigh, ib also Beccmes more volatile, Aw a result, the dispersion int individual comsumer buslels increases, causinee the variauee of inflation perveptions to go up and Che covariates of perceptions and expectacions to go down.Dependent variable: Long-term Inflation Expectations B Yeas 10-Yeuzs i) 2) 3} iy perceptions D520 LIMITE OFT ODI (pash 12 cious} (0.0192) (0.9159) (O11) (L.ML GG} expectations sige wager {short-term} (o.u1u7} (u.0135} constant 1 1 ‘wave dummies + + - + controls + + + + N 35491 85065 268082657 R 0232 0.308 bagp 0255) Moves Colurnna 14 separ OTS estnaien. Rust sanland eps (Rieke Huber White) sre reported la pazentheses Significance Feels =" pet00 = pec0fll, = peO0d, Wave conti include « cumsuy for each wave. Soci denostaphie coutioe include gender. dousehold inosine, education, uzplowment seotus, region, age, ago squaced, ‘The dapendent varicbles (loug-eerm inlation fexpeetations| are measured By enatitosive survey questions “Whar value do vou think the rate of insatien or dean wil rake on average weer the next Fes (tea youn". Shartsrem raqzerbalios ane misao I qpuatital en sare ‘aurstiny “Wha so yan ik the rae of ilation will rnghly be over ths ne Temonths!™ Perceptions ar messed ir quantitatse survey question: “What Ag ot think the saof fnfetion sre fetion in Cesmange wna the post PE Unvontteo". Penceptions sal expecta ins tempat [tle uy wes 1 (Ape Tae 2004, Agi 020 Taner "Theda spy 2022} [able 3: Inflation Perceptions on Long-term Expectations Table 3 reports the estimation results, Column 1 and 3 show that inflation perceptions play alo crucial role for long-term inflation expectations. The size of the relationship is moderately smaller compared to the relationship Inetween pereeptions and short-term expectations, .A one percentage point increase in households’ perceptions is associated with a 0.58 (0.55}-pp increase im expected long-term inflation aver the next 5 (LO) years.!7 Unsurprisingly, the magnitude of the perception effect on long-term expectations is reduced when we control for short-term expectations (Cols, 2 aud 4), However, a positive, sizable, and highly significant impact. remains, ‘The houschalds use thelr subjective asscssinent of the development of inflation over che last twelve months not only to form their short-term expectations, bul also consider it when forming their long-term expectations. Lonyeterm expectations are (hus dircelly and indirectly, via Ue efleet on shiottelerin expeetie Lions, affected by households’ inllation perceptions. Iu line with the reluted literature, we alse Hind A positive asociation between short-terin and long-term inflation expectations Fi ding 3 (Inflation Percwptions and Long-term Expectations). ITouehodds’ inflation pereeptzons By regarding the last 12 months have « direct positive, sizable, and significant effect on househalds tong-term ination expectations B (xfs), with £ & {5,10} years "This sesult is rolast to vasious specifications and estimation methods {Appendix Table BS)4 Impact of Information Treatments about past Inflation on Inflation Expectations Section 3 documents a strong and quantitatively impor ant relationship between households infia~ tion perceptions and their expectations about future inflation. This Section is dedicated to identify ‘clear causal relationship, 4.1 Randomized Control Trial Design As cliseusser in Section 2, the survey collects various measures of inflation expectations and percep tions about past inflation. Following these initial measurements, we implemented three information Loew tnentsin August 2022 fsurvey waive 32) 8 Respondents were randomly nllocated to one of four groups, ‘The first gromp is the control group, which receives no information. Gromps 21 denote tie information treatment gromps. Bach group receives information abont the official infiation rate for Germany for the past twelve months Within cach information treatment (groups 2-4), each respondent receives @ reminder of his/her point prediction about the inflation rate over the past twelve months—dlicitd! prior to the exper- iment and one of the following texts: Group 2- ‘Ireatment 1: ‘Ihe Federal Statistical Ofliee reported the official inflation rate for Germany for the past twelve malls, for the definition excluding eweryy and Foor, wx being 3.25 in duly 2022. You indicated that you belieee the overall inflation rate, ie. including energy and fooel, was [..) over the past twelve nront hs, Group 3- Treatment 2: The Federal Statistical Olive reported! the official inlhatioes rate for Germany for the past twelve months, as mensurad by the consumer price inden as beings 7. 55 in July 2022, You iaicated that you believe the illation rate was [ e tnorth ‘aver the past tw wp 4 ~ Treatment 3: ‘The Federal Statistical Olive reported! the official inlhation, rte for Germany for the past twelve manths, as measined by the Harmonised Inde of Consumer Prices, as being 8.55 in July 2022. ‘Yon indicated that you believe the inflation rate vas [.] over the past twelve months [Survey participants receive infarmation regarcling how inflation is defined. Hefore any question on infla Gon is asked, esporuients cveeive the following information. on a separate serven: The inllatioes rate is the percentage merease in the general price level, Ibis muntly aacssured using the consuster price index A decrease in the price level is generally describes! a “deflation”oltowing these tess respondents from all four groups (including the control group) were asked ‘the twa follow-up questions below ta meassire the treatsnunt effects on inflation expectations! Ty void survey fatigne and a potential anchoring on previonsly reported mimbers, we chose ta: not ask the exact same inflation expectation questions, ineluded in the survey prior to the treatment, gain, Instead, we ale for thee nsin, snus, soot likely exxperted| inflation rate, ‘This ix stanchard practice in information provision experiments on inflation expectations. Assuming & triangular distribution allows ns to compute the mean, median, and standard deviation of post-treatment inflation expectations; for a detailed explanation, see e.g, Coibion et al. (2028) Question 1: What are the minimun and maximum values you expeet for the rate of inflation ‘over the next Qwelve months? Notes &f yor axseane: there will be deflation, plone: enter «wegen etkue. Val any have one dlocimat place. Please ensure that the minum is nat greater than the masini Question 2: Tn your opinion, how Whely isit that the rate ofinflation wll be above [(rin + na) /2] cover the next twelve months’? fote: ‘The aim of this question is to determine how dikely you think é 18 that something specific wil hopper in. the future, You ean rate the likelihood on a seale fron (to 200, with @ meanany that an event is completely unlikely ancl 160 meaning that you are absolutely certain i will happen. Use values betwen the two extremes to moderate the strength of your oginion, While treatment 1 provides information about the core inflation rate (excluding energy and food), lseaiments 2 and 3 focus on the overall inflation rate, measured as tke consumer price ides (CP ‘aud barianived consumer price des (HIGP) respectively.2? lu the iallition perception question prior othe treatment, we ss abont the overall inflation mate over the bask [2 months, We argue, {ar the respondents weviving ether treatment 2a 3 will update their perceptions to the number given in the treatment tect.?! We tins only elicit posterior inflation perceptions for respondents receiving treatment 1. For respondents receiving trestment 1, it is not obvious whether and to which number they will update their inflation perceptions of the overall inflation rate, given that Sulwcayucnlly, responlents ehuaracteristics ©"The CPI and IIICP numbers are published by the German Statistics] Office, ‘The main dilference between ‘the to indices are thar the CPL inelsdes the prices for owner-ocenpied residential property. Alko, the CPT weighs are omy usidated every S years, ul sammualy for she HICP. Far more eta {ees doatatis .40/Bl/Thenes/Econamy/Prices/Consuner-Price-Index/Nechods/HVET. “Note thae for treatments 2 and i, providing office] information sbout the overall inflation rate over ‘the past twelve months, together with the respondents’ prior point estimate, ensures that respondents ‘can easily interpret the ollicial imformation as “gooal” ar as “inal” news-and adjust heir assesewn (pereoption) about the everall ialation rate aver the past bwelve mouths accordingly shod Toultuick questions avn questians wlieitiny thuir soviveconeinieLey were provided with: Hie core inflation rate in the treatment text and not the ever Il inflation rate, over the past twelve months. To measure the extent of the adjustments, we ask the following: eaiditional questions to responcents receiving, treatment 1 yestion 32 In your opinion, what minimum ane maxtor value has the overall inflation rate, i.e, including energy and food, reached aver the past twelve months? Note: If you ascume there was deffation, please nter @ negative value, Values may have one decimad place, Please ensure that the migimum is not greater than the marinus Question 4: In your opinion, how likely is it chat the overall inflation vate, Le. Ineluding energy and food, was above [(inin }ums}/2, over the past twelve months? Note: The wim of Usis question ix to determnine how Kkely you link tis that sometling speeifie Nagppesedl i Be: Fuluve, Yoru etn vile thes bibeltsoond ore a scate fron O bo 100, vith mereing thes you an absolutely certain a event did not happen and 100 mening that you are absolutely certains sf dhid appen. Use values between the two extremes to moderate the strength of your opinion. 4.2 Randomized Control Trial Results We desigued the RC? to investigate wheter perceptions about past inflation causally eleive inllae Vow expectations ube fulare inflation, Vor this, we ianplomenlel exogenans variation in illation perceptions using different types of information about the inflation rate in Germany over the last trvelve months ‘We min the following regressions, for each treatment, to test the cans eHect of the change is inflation perceptions on the change int inflation expectations, F (rae any when: 12 (282%, 44) emotes te: inflation pate household expects far Ue aext 12 months me sured in percentage points, and collected after the treatment {ie., posterior expectation), and E (xf Siyq2) denotes the comesponling inflation rate houschold i expects, collected before the retin (Le, prior expectation). Pe" denotes la: honschold’s ¢ perceived Galion rate over id belore the treatment {ie., prior perceptions) and PR denotes the we Task 12 months eld household's i perosived ination nate over the Inst 12 months elicited after the treatment (Le. osterior perceptions), and X, denotes a vector of controls for inivicieal The regression results of (4.1) are reported in Table 4, In Column 1, we present the results for the “coxe inflatio (excluding food and energy) Treatment 1, Columns 2-8 show the regression uesults for the “ovevall inflation” Ueatments 2 and 3 (CPLand HICP), and in Colum 4 we poolall treatment yronps. We lind a positive and significant elfeot of Une change in perceptions on the change in expectations (p< Q.D01} for all treatanent gronps.™ Treatment #1 # ra CP home = 32% CPI = 7.5% Pooled ITP TE) On gE O30 03 OA (0.0587) (0.0883) (0.0840) (0.0830) Controls 1 N Bs 12 08 7800 R 0.133, 0.137 o.149 0.119 Nous Colin [4 repart O18 ealinates, Significance bevels: ™* paDDOn, = peDI, © paOds Robust standard erzors {Biclar-Huber-White) roported in parentheses. Sacio-demographic controls icluie gener, bunschld incon, evducatiun, cornea emplapnent alas, regi, age, sa: quan Perceptions and expectations trunented [10-3 ‘The data span survey wave 32 (Anugist 2022}. ‘Yable 4: ‘The causal effect of inflation perceptions on expectations (by treatment) “To visualize this result in Figure 2, we restrict the sample to respondents: with, pre-treatment inflation perceptions higher than 8.5%. We choose 8.59% as the cutoff hecamnse, for thes: respondents all information treatments imambignonsly present “good news about the actual eurrent inflation: rate (i.e, the inflation rate was lower over the past twelve months than the respondents thought} Figure 2 illustrates the treatment effect on inflation perceptions in red and the treatment effect on inflation expectations in blue, Figure 2 shows respondents react to the information treatment ‘and adjust their pereeptions about past inllation (rod bar, ‘Treatment 1}. ‘Phe Kiguee also highlights Lint consumers, who overestimate! nell in flat iow in Geramuty over Ue past twelve routs, adjust Leir expectations about future inflation downwards once they ener tht the inflation rate over the past twelve months yas lower than they thenght (Figure 2, blue bars, Treatonents 312% These results indicate « cansal effect of perceptions, which are altered throngh the treatments, on expectations, ‘This interpretation is particularly supported by the results for the respondents: receiving information about the core inflation rate {exeluding food and energy; ‘Treatment 1). We Iu addition, we dollow the approach of Coibion ot al. (2018b) and Coibion vt al. (2028) to asses the feces of che different information treatments on inflation expectations. Appencix Table 112 reports the resulta in Column 1. th summary, we find that our treatments are sunvessfl in eventing variation in households’ iallavion expectations. After having rvevived information avaut tne aetual inflaton rate vor Liv post tolse months, houscholds revise their expectations abuut fature inflation siemificautls Appendix Figures [37 and DX show the inflation expectations post-treatment for different levela of pre treatment inflation perceptions ancl expectations. These Figutesillstrate that larger information shocks to eonsusnersinllation porouptions cause larger shilis ia Univ inflation expeetations. Figure 2 shows that he consumers in the control group chuuwe their expectations slightly. Give that this group revcived na information, one might expect no effect. However, because the prior and postertar expectations ate neasured using diferent questions, the mode effect introruced hy this approach lears ta ths minor change in reported inion expectations. As Treatutents [8 lel te euch larger revisions in expectations, we conclude that the weatments successfully gewerate variation in houscluls” inflation perceptionsFignre 2: Treatment offoct on consumers’ perceptions and expectations Pre-treatment Perceptions > 8.5% ,| a g & 4 te 2 - Eo g + 0 info OPI=75% -HIGP=85% CPlowe =3.2% treatment group TREE changein expectations MINI change in perceptions Note: 8 peDal, “ p0.05, * poO.l. Stars deuale statistically siguiticant differences tetween Ue outro! weataiout (ao information) and the muformation treatment groups (MWU Tusts). Sample rostrieted to respondents with prestreacment inflation perceptions higher then .3%. For thece respondents, all information treatments present goad news ahont arsual in lato. cxplicitly measure posterior perceptions for respondents in that group (see Section 4.1} and show that consumers’ inflation perceptions react strongly to the i mation tweatment and that the adjustment iu expectations closely matches the adiustnaent in per options {Figure 2}. We also. show (tual inflation expectations adjust in the expected direction for (realinent gramps 2 ancl Be However, we do not explicitly: measire paslerior perevptions for Lhese gramps bul assure bie uljust to the level mentioned ia the treatment texts, [tis highly unlikely, but we cannot rule ant, mt Hie information treabnents these Lovo groups coveive do nol alle, cheir peroeptinns hub other Tiuehons Finkel to eoxpoctisions Finding 4 (Cansal Hifeet of Perceptions on lnllalion Expectalions). Househitls” inflation pereepe tions Poe aver the last 12 months hare « direct pasitine, sizahle, and significant causal effect ort househalds” short-term mffation expectations fort at twelve aeortios Fo(a¢ yey 12)- The results of our information provision experiment (Finding 4) align with the simple mode? presented in Section 9. In Treatments 1-8, honseholds receive a signal shout the enrtent inflation Treatments 2 and § provide direct infarmation on the overall inflation wate over the past twelve months. Asking sesponderts sight aller (his infarmation about Uheir perceptian of Une overall ialition sate over Uh past cvelve mouths was not feasible, Huwover, as the treutueut informations uuly included infurmation ox ‘the past overall inflation rate, we assume that posterior inflstion perceptions are equal ta the informacion provided in the RCP experimentrate, These signals cnmsally change hoasehokis’ inflation perceptions, and hence, expectations: ws equations 3.5 ancl 3.7 predict. Our findings of the RCT suggest thar noyy information models hight provide an securate representation of eonsumers? expectation formation process 5 Determinants and Heterogeneity ‘The previous sections showed that househelds’ short- aud long-term inflation expectations are causally driven by their perceptions about inflation (over the past twelve months}, ‘Therefore, it is crucial to understand how dliflereat households form their yyerceptions about current ay past inflation and wha drives the heteroyencity in the shreugth of the link aeross certain soups. Hoterogencily requeeting the pereeplion-expeclation link can ariginate trou several factors. Already: he weige perceptions ase formed and whiele inforruation they are based om ean be a sone for swuriution of the strength of the link (across different socie-demagraphic groups) 5.1 What drives Inflation Perceptions? ceptions of inflation over the past twelve months, Yo shed light on how households forma their pen of Um BOP-HEL survey: tae added a question to wave 28 (April 2022) Question (Factors driving Pereeplions): “Al the start of the survey, you estimated the ila iow or deftation rate over tie pas! fsetoe montis te haewe fees J. Jn your opine, Howe impor taal tare the following factors for your expectations regarding the ancrage inflation oF deflation rate over the past hoelve montis? * Answers: S-point scale, from “wery important” te “tot at all important”. This question is a follow-up question that picks up the previous answer on respondents’ percep tiow of the inflation‘deflation zate over the past twelve months, The follow-up question provides nine potential factors respondents might have used to form perceptions. Lhe respondents are asked Lo rate the importance of each factor for their previously given point estimate of inflation, perceptions (see Appendix A for (he exact wording of che question and the wine fickors) use of Tor each faetoe, Figure 3 shows te wondents reporting “very inyportaal”, The top 3 Factors are the following: “The development of the geopolitical situation over the past two months, parricularly the war in Ukraine’, “the development of Fuel priees over the past twelve months", and “the development of food prices over the past twelve month: Henwwe, peroeptions seem to be strony infiuenced by unexpected events lke the war and personal shopping experiences. Frequently bonght products such as fuel and food are at the foreltont of households’ minds when assessing the inflation rate over the past twelve months. Tr 20saldition, louscholds consider macroeconamie uncertain ys sch athe: Ula ian seri eset factor, In contrat, price developments of infrequently bought goods (how prives or the prices of ‘major purchases) are rated! mich Tess often as a “very important” factor. Interestingly Tess thar twenty percent of the respondents considered *media reports on the ination rate” to be a very important factor in their assevement of the inflation nate over the previons twelve months. Fi ding 5 (Factors driving Inflation Perceptions). Prices of frequently fought goods food and Fuel) as well as uncertainty ane the key factors households rety ow vuhen forming inffation perceptions: over the previous twelve monies, Figure 3: Self-reported drivers for inflation perceptions. ° 2 4 é ‘Snare reporting factor tobe very Important fr forming ination pereepions| III ccd prices [ERE rect IEEE mecia apoutintation NINN covid IEEE house prices [EEE major purchases. IEEE iscussions with peoole Sources: Bundesbank Ouline Pouel houscholds (BOP-HH}, Survey Wave 28 (Apel 2022), Heterogeneity in the Perception-Expectation Link “This and the next section explore factors, which may drive the strengtl of the Tink betwevn per= ceptions and expectations, Undenstanding which yocie-sconamie characteristics intensify the pass trongh from infistion perceptions te inflation expectations helps tncover the role of inflation perceptions and potential mechanisms derlying the formation of inflation expectations Therefore, we first analyse heterogencity along socio-demographie characteristics, to establish whether diffrent groups of individuals rely to a diferent elepree on perceptions when forming expectations.“ We estimate the baseline specification (3: ising sample splits, Appendix Table BY reports the corresponding estimation results. Qur results suggest that wouaen, residewts of Bast ‘Apporidix Table BS reports (he exernge inflation perceptions and. expectations by socio-demegraphic characteristicsGermuny, the employee, Uke low-edueated, and the invidunls younger than 60 years old rely Ko a larger extent on their ination perceptions when forming expectations Second, we estimate an alternative specification using the completessemple. We nse the slime ‘maociel (3.1) and add as controls an interaction term between perceptions and the socio-economic churacteristies: Wm venta) = Bo 1 Ne | aly | SPae Mae | Lae {h, vw E (rig ious} elenmoles the inflalion rate: household ¥ surveyed ia wave L expects for the ext 12 mouths: measured in percentage points. X,4 elenotes a vector of controls for individual jas, specified in the baseline specification (3.1). Pye deaiotes liouseholl’s & perceived average inllasion ale over Lie hist 2 monlias: measured in percentage points. Pye x Xe denotes the interaction term, and Fy denates the survey-wmave fined effets. ‘The EIW exror term ix denoted by 2. Table 5 reports the results and shows a remarkable strong and stable perception effect across the five Columns, In addition, Table 5 provides evidence that women, residents of Bast Germany, the employed, the lov-edueated, and the individuals younger than 60 years old rely to a larger extent on their inflation perceptions when forming expectations. The heterogeneity result is particularly striking for age; sce Column 3 of ‘Wable 5. Individuals that ave older than Gi) years expect a higher inflation rate over Uke next tiwelve months and rely siguilfeantly less on their inflation perceptions of Le previous (welve nionths, ‘This generation's Torrntive years wore charieterized by mul higher ‘and more volatile inflation rates compared to younger generations in Gurung. In contrast, the Fonger generations experienced their fiarmative years during stable law inflation rates: a period where “rational” beltavior is consistent with not sexrching for costly information on «mall inflation rate: changes and expecting Hut the inflation rate over the next twelve months ranghlye stays the same as over the previos twelve months, TTence, this result is consistent with thenties of experience effects (Malmendier and Nagel (2016), Malmender et al. (2021), Malmendier (2021)) combined with rational insttention, Our xesult that women systematically expect higher future inflation (sce Col, 1} is consis. tout with che existing literature (Beuine de Bruin ot al. (2010); Avmanticr ot al, (2013)) as wel. D’Acunto et al. {2021b) argue that women do most af the grocery shopping for their households and hence observe aad experionee dilferent price siguals than sien and, therefore, might exjyeet higher futire prices. Que results provide evidence Tor Lbs conjecture, as we shave ins Colum 1 Unt ‘wonnen rely more on their perceptions: when forming inflation expectations than mem.Depeslal soll] T © w Parcoptin Tae oar oT oR (es 12 eu ‘wari okays uray lm Fesoae (én) oe" Poroptn » Feud anger ‘ot oes Pere Ei cases oot {005st) nn oppo em 0208" ‘m.os40 orspition Prophet nua Low-edunted tdumay ova Pesoxption Lom-Edueated, Weare duis + - + + Casio ¥ 7 asi Hee st cco one MY ye CO), pe 6, pets ow ‘lene mane a= oa aquotsd. In Col we ksead& domeap for ome years et nde, a8 op sm uct [a 9 oo Table 5; Sacio-demographic Heteroyeneity in Perceptiou-Lxpectation Link Finding 6 (Heterogeneity in Strength of Pereeption-Expectation Pass-through}. ‘he perception effet is larye and si fend for all socioeconomie groups. Women, resielents of Hast Germany, he employed, the lon-educaled, avul the éniiwidals younger Hare 60 years old place a signif anyesr sought am Slaton pe pisos hase forvingy shuartadevim snjfadiawe epee tation. Corning Result 6 on heterogeneity, will Une Resi. fon Ue most eridieal reported factors (or perception formation allows to conjectures on potential drivens for the strength oF the passe through. Fins, our results suggest that the heterogeneity in the pass-throngh could be weplained bye lille jnforanat iow souroes wae 19 Fores perceptions (e.g. media vorsus own shopspingesxperienee). Second, different levels of uncertainty between vations socie-economie: groups could explain thedllferences in ghe passethrough ror perceptions to expectations. [nthe wk section, we investigate ‘these tui conjectures: and relate thear to the made 5.4 Information Acquisition Yo analyze whether dilfereut socio-economic graups consume diferent inflation related information lo form inflation perceptions, we add bso questions to the survey wave 19 in tuly 2021 and bo the survey wave 35 iny Newernber 2022 Question 1 (inflation information): Aside from tix owen, herve you, ser the past fowe sored heard or vead a aything abort inflation ina Gerneang’? Answers: L— Yess 2 — No. Question 2 (information source): You saicl you think prices for esserstia® goods hae [..) aver the past twelve montha. Te that ins ad more on things you have henre or read of om your own expe ences when shozpg? Answers: 1 — more media; 2 = more own experience. Figure 4 illustyates the listribution of answers to both questions. Iu July 2022, 44% of the xespon- outs had heard or toad someting about inflation over the past four weeks, IL is not susprising that Lhe disteibution of answers changed dramatically iu November 2022. ‘Phe inllation sate ineroasod siguilicantly over 2022 by te enel of 2022, the overall CMI inllalion wus anor Ua six: pereeal age points higher than in July 2021. Consequently; the topic ajlation appeared wich more frequently in the news. Aw a result, in Novernher 2022, almost 90% of the survey participants report to had heard or read some information sbout inflation in the last month, However, it is striking that the distribution of answers to question 2 remained the sane over this time. En duly 2021 and November 2022, almost 90% of the interviewees reported using their own shopping experience: to form perceptions about past inflacion The answers to both questions vary across socio-economic groups. Appendix Table B2 shows ‘that iudividuals rom low-income houscholds, the low-educated, women, the young (less than 80 years old}, and individuals living in East Clermany are less likely to have heard or read about inflation, Purther, we find that women, the low-eclucated, and individuals aged 30 years or older, ‘are more likely to base Licir perceptions bout pas price changes on their own shopping experionee. These dilferonces in information usage may’ be Lbebind the etercgestilye ye abserve in the strength of the link betmaen perceptions and expectations betmuen certain sacke-demographic gqvoups, And indeed we find that the pastethroagh from perceptions to inflation expectations l.., denotes the placeholder for the previously given answer: decreased significantly; decreasod slightly stayed! ronghly the same; inerease slightly: inerensed significantly. ‘The corresponding vey qneation, is described in Soctign 3.is stronger For thee that rely on their own shopping experienee thin For those Chit dot ad for ‘those that here news shout inflation in the past four weeks, Table 6 shows the estimation results using interaction terms of the information variables with inflation perceptions. ‘Figure 4: Information Acquisition =< — = (0) Answer distribution, “Aside fiom this (hb) Answor distribution: "aside from this survey, have you, aver the past four weeks, survey, have you, over the past four weeks, heard or read anything about inflation in heard or read anything about inflation tn Germany" Elicited in July 2021, Germany’ Tlicited in November 2022. ta) Anxwer distritmbion: "You sail yon (b} Auswer distribution: "You said you think prices for esscutial goods |. over the think prices for esveutial goods |. over the past twelve months. Is that based more on past twelve months. 1s thal based! more on things you have heard or read or on your things you have heard or read or on your own experiences when shopping?" Elictied own experiences when shopping?” Elicited in July 2021 ‘These results contribute to and extend the findings by Ly'Acunco ct al. (2021a) and D’ Acunto et al, (2021b), who show that the primary grocery shapper of the household reports higher expec- tations about future inflation than the non-grocery shopper. Gur paper finds that the shopping experience affects inflation expectations only indirectly via hauscholds' inflation perceptions (Table 6, Col. 2}. Wealso find that being informed about inflation has a direct negative effect on inflation, 25Deponelent: varivlse: Short-term Tflation Expectations (next (2 anorths) uy 2) inflation info fduanny} base pereeptions “wast on shopping experience (0.213) Perceptions: o.706 cans Hast 12 months) (o.080) (0.207) Perceptions x 0245 ination ilo (o.0r7) Perceptions oaa0" use perceptions coast) con elioppng experice Bie oso Notess Calnamns 2 voport OLS estimates. Rest stand are reputed i porentbise. Sisifcanve less °°* petOQl, ** pels pe Ahemgrashie ronal incline gender, pelo Slalus. rege ag age reared. The deamon wana (ict teens ination expert tions) ie measured by the quantitative auvey question: "What do you chink the rate of ination will voushly be over the next 12 mouths. Perceptions and expectations trai aed [90-3] Die date eps wave J9 (July 2021) aud wave 35 (November 2022), ‘Lable 6: Information Acquisition, a Driver for Heterogeneity (1) Finding 7 (Shopping Experience: A Determinant for Inflation Pereeptions and Expectations). wice of 1 inforried about inflation and (4) Socio-economic groups differ in the (i) extent of b rplions abou! past inflation. The shopping experience featient information source wsed to form pei prices of frequently bought producis) affects inflation expectations iodizecty Kdoroagh inflation yer ceptions. ‘The shopping experience: defermives the possethrongh strugih frou inflation wereeptions te infliction: expectations Jo rationalize Findings 6 and 7, we extend the model of Vellekoop and Wiederholt (20196) by incorporating our results on information acquisition, ‘The answers lo our novel suevey ques Vos stggest thal the birgte majority of consumers use Uncir shopping experience to Foran inflation perceptions: during the bigh- and the low-inflation environment (ser Figure 4). Hence, fir most households, their consumption baskets serve asa signal2? Te is a surprising finding became in times of high and volatile inflation, the quantity and the frequeney of media reports on the topic increase substantially. Nevertheless, cers, house svn in the presence of inflation stews int holds continue to nse their shopping experiance (ie., individual consumer baskets) as the primary F Asouad 0% of ousehulds report basing Hheir ination perceptions on their chopping experienee, while ny 10% nse media reposeinformation source te far their ination: pesceptions (ic. estimating current inllation). “The ane wer to the question of whether household ave ear or read about inflation revently ean infers tus howe frequently they might update inflation expectations (se Figure 4) In order to imcorporate these empirical facts on information acquisition, we introduce hetero- geneity in the model of Vellekoop ane Wiederholt (2019b}. We start by splitting households inte to types. The first type uses the signal from the media, while the serand type receives a nnigy signal from their personal consumption basket, We assume that the former type knows the actual curvent inflation rat and the latter type uses the Kalman filter to noweast it, As a result, the estimate of the current inflation rate (i... inflation pereeptions) and inflation expeetations ean be described as follows Eli, =m + A NEE J+ Kisie —Blrehes))) 2) Field) = (= ple trem + C1 = are Kee (5.8) whew {1-7} denotes the share of househalds who use their own consumption baskets ns signal and rulers le he share of hosscbiolds who ose: Ue mein La fori infhaion perceptions. The as supbion that he frst household ¢ype learns the ensrent inflation rate tvongh the sda leanne isa implication, ‘The argument’s logie also holds when both honwehold types world recive noisy signs, ot long as Une fest Lype is ssn Co revive signal wills lower varius of sis We introduce second ditnwnsion of heterogeneity hy using the answer to the siarvey question “Tlave you heard or read anything about inflation recently?", We introduce two groups of con= smumers: the informed and the nminformed. The share of the informed is denoted by 4 and the share of the uninformed by (1 — A}. The informed households receive signals about the current inflation rate in the form of news or by their own shopping experience in period t, while the rminforrned receive no signals in period ¢, Hence, we deseribe the estimate of the current inflation rate (e.g inflation pereeptions} and inllation expectations as follows: Eqeildha) — 7m + L- VALE (a ie] + Ks — E ald mB] (5A) Bite [Ba] = — pled Yom + (1 V)AeE In|] + Tie] (55) Introducing these Lo sources of heterogeneity, allows us 1 rationalize Finding fis nat e.g women, the residents of Hast Geruany, the young, and the low-edueated have stronger passe heougls from inflation perceptions to inflation expectations. Regarding the source of information (media or shopping expericuee), women nel Une residents of Bast Germany are amore: likely lo base Lele perceptions o1t Ueir own shopping experiences (Table B10). When we rum regression (5.1) withygender ws well ws the Bast Gertnany dummy’ acl acld Uw interaction: termes of inllation percwptions with these dummies, we may compare the couicienty on inflation perceptions of two groups of consners eu, one with a larger share basing their estimates of inflation on ox consumer baskets sand the other with a smaller shave of such honseholds, So, for women and the residents of Bast Germany p than 9 the coefficient on inflation perceptions in (5.8) js mon Hkely to be According to our empirical results, 9 is equal to 90%, while 19 This means a stronger pass-through for these consumers, Regarding being informed about inflation developments our results show that the young, women, and the low-edueated tend to be less informed (Yable B2). Hence, they ate less likely lo veveive a signal about the current Saflation, Consumers, who get no signal, donot update tele cslimates vising the Kalman Ger (oq 5:4). As a result, their inflation perceptiogss da not eontains foxtra moive from the lutest sigunls ane [ins the variance iat Uncir swenst of Une eurrent Gallons bs lower, ‘Thiss naturally leads tothe higher persistenew coelficient for these inwividvals 5.4 Individual Uncertainty about Inflation Dynamics ‘This scetion investigates the impact of uneertainty on the pass-through from inflation pereeptions to expectations. We use the probabilistic inflation expectation question to measure tie wnccrlaiuly about iuflation fir ouch rexpoudent.2> igure: 5 shows the Gini series of the average level of individual uncertasiney (os well as the sedan) Figure 5: Uncertainty abont Inflation (next. 12 months) PPPS So Sources: Runndeshank Online Panel hpusehioluls (ROP HH). Unrestainty is measured hy che liu of the subjective probability distsibution of the probabilistic question segarding inflation expectations Question: Ti your opinions, how likely i it that ¢he rate of inflation will change as follows over the ext twelve months? Participants sre asked ta distribute s probshility of DINE over ten categories between A dellation rae 2 12% sand an inflation rate 12% Appondis A documents the exict wording of che survey question and answer categories,