Reactions of household inflation expectations to a symmetric inflation target and high inflation

We provide evidence on the reactions of the level and probability distribution of households’ expectations of inflation in the euro area to the ECB’s monetary strategy change to a symmetric inflation target in July 2021, and to the subsequent strong rise in euro area inflation above target. We use a randomised control trial within a monthly representative Dutch household survey of short- and long-term inflation expectations, where half of respondents receive information about the ECB’s inflation target and actual inflation. The survey responses give rise to three main findings. First, we find that households’ median expectations of euro area inflation ten years ahead showed no reaction to the introduction of a symmetric inflation target by the ECB, and short-term expectations changed very little. Second, and by contrast, median euro area expectations rose in response to the strong increase in inflation above target, both for short- and longterm expectations. Taken together, the results document that the ECB strategy revision itself did not have a material impact on household inflation expectations, but the high realisations of actual inflation did. These findings suggest that when it comes to household inflation expectations and central bank credibility, inflation outcomes speak louder than words. The third finding is that households’ expected probabilities of high inflation (4% or higher) increased as well in response to high above-target inflation, both for the short- and long-term horizons. These results suggest that long-term euro area inflation expectations of households have become less well anchored as inflation has increased strongly above target in the wake of the pandemic. While the long-term expectations of households who received information remained better anchored than those who did not, the expectations of both groups became less well anchored with inflation rising strongly above target.

JEL codes E31, E58.

Working paper no. 743