Can inﬂation expectations in business or consumer surveys improve inﬂation forecasts?
Working Paper N° 348
In this paper we develop a new model that incorporates inﬂation expectations
and can be used for the structural analysis of inﬂation, as well as for forecasting.
In this latter connection, we speciﬁcally look into the usefulness of real-time survey
data for inﬂation projections. We contribute to the literature in two ways. First,
our model extracts the inﬂation trend and its cycle, which is linked to real economic
activity, by exploiting a much larger information set than typically seen in this
class of models and without the need to resort to Bayesian techniques. The reason
is that we use variables reﬂecting inﬂation expectations from consumers and ﬁrms
under the assumption that they are consistent with the expectations derived from
the model. Thus, our approach represents an alternative way to shrink the model
parameters and to restrict the future evolution of the factors. Second, the inﬂation
expectations that we use are derived from the qualitative questions on expected price
developments in both the consumer and the business surveys. This latter source,
in particular, is mostly neglected in the empirical literature. Our empirical results
suggest that overall, inﬂation expectations in surveys provide useful information for
inﬂation forecasts. In particular for the most recent period, models that include
survey expectations on prices tend to outperform similar models that do not, both
for Belgium and the euro area. Furthermore, we ﬁnd that the business survey, i.e.
the survey replies by the price-setters themselves, contributes most to these forecast