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Expectations formation of household inflation expectations in India

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  • Singh, Gaurav Kumar

Abstract

Inflation expectations data are commonly used to address a number of important questions primarily related to the inflation expectations formation. This work presents such an empirical analysis of Reserve Bank of India’s (RBI) inflation expectations data for Indian urban population. First, we apply a battery of tests for verifying the assumptions of rationality of household expectations. The tests lead to the outright rejection of the assumptions. On the other hand, the inflation forecasts by professional forecasters seem to support the rational expectations assumptions. Second, considering a regression model we find that the inflation forecasts by the professionals forecast the actual inflation better than what could be predicted by the recently available actual inflation data. Finally, using a sticky information model (Mankiw Reis (2001, 2002), Carroll (2003)) we also find the support for Carroll’s contention that relevant macroeconomic information about future inflation flows from experts to the households, not vice versa. Additionally, if the sticky inflation model describes the household inflation expectations formation, it is natural to expect that more news about inflation in the news channels would lead to the reduction of disagreement. Our empirical analysis using Google trend data supports this hypothesis.

Suggested Citation

  • Singh, Gaurav Kumar, 2020. "Expectations formation of household inflation expectations in India," IIMA Working Papers WP 2020-12-02, Indian Institute of Management Ahmedabad, Research and Publication Department.
    • Handle: RePEc:iim:iimawp:14641
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    References listed on IDEAS

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    1. Olivier Armantier & Scott Nelson & Giorgio Topa & Wilbert van der Klaauw & Basit Zafar, 2016. "The Price Is Right: Updating Inflation Expectations in a Randomized Price Information Experiment," The Review of Economics and Statistics, MIT Press, vol. 98(3), pages 503-523, July.
    2. Laurence Ball, 1994. "What Determines the Sacrifice Ratio?," NBER Chapters, in: Monetary Policy, pages 155-193, National Bureau of Economic Research, Inc.
    3. Nordhaus, William D, 1987. "Forecasting Efficiency: Concepts and Applications," The Review of Economics and Statistics, MIT Press, vol. 69(4), pages 667-674, November.
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