Assessing the Impact of Goods and Services Inflation on Consumer and Professional Forecaster Expectations: A Bayesian Shrinkage Approach

In this paper we empirically examine how changes in 17 goods and services categories of inflation affect inflation expectations. More specifically, we use a Bayesian time-varying-parameter model with shrinkage and stochastic volatility to examine the predictive ability of sectoral components of inflation for consumer and professional forecaster surveys of inflation expectations. We additionally examine how those predictive abilities change over time. Findings suggest that inflation expectations by professional forecasters are not much affected by short-term price changes in the prices of goods and services. However, price changes in food, food services and to lesser extent energy appear to be a significant and meaningful predictors of short-term household inflation forecasts. However, those effects demonstrate considerable variation over time. Overall, these results shed light on the dynamics of inflation expectations and have important implications for policymakers and stakeholders in the economy.