Current economic scenario anchoring inflationary expectations

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Current economic scenario anchoring inflationary expectations

  • The RBI released the Inflation Expectations Survey of Households (IESH) for March 2022.
  • The results on the inflation expectations are based on responses from around 6,000 urban households surveyed in 19 major cities.

Milton Friedman

“Inflation is taxation without legislation.”

Impact of Inflation

The overall increase in the prices in an economy is felt by everyone.

  • High inflation adversely affects the poor.
  • Individuals form expectations about how prices will behave in the future to take precautions.
  • If they anticipate high inflation, they negotiate wages or rents to compensate against a potential fall in their purchasing power.
  • Increased wages increase the cost of production, making expectations self-fulfilling and playing a pivotal role in determining inflation.

Inflation Expectations Survey of Households (IESH)

The Reserve Bank of India has been regularly conducting Inflation Expectations Survey of Households (IESH).

  • The survey seeks qualitative responses from households on price changes in the three months ahead as well as in the one year ahead period.
  • Quantitative responses on current, three months ahead and one year ahead inflation rates.
  • The last two years of surveys capture individuals' perceptions during the three waves of COVID-19.
  • The survey results present interesting behavioural insights for public policy, particularly from a gender perspective.

Why Inflationary expectation is high

Central banks raise interest rates to ‘anchor’ high inflationary expectations.

  • But the temporary price shocks, on account of drought or disruption in global supply chains, entail the risk of getting transmitted into actual inflation.
  • A significant factor shaping perceptions on inflation are the prices that individuals observe in their daily lives.
  • Goods purchased frequently such as groceries tend to be low-priced and highly volatile in comparison to those which are bought seldom.
  • For example the prices of the lower-priced potatoes, milk, or apples frequently purchased shape the aggregate inflation expectations more than that of infrequent purchase of a high-priced car.

Gender Inflation Expectation Gap

Women have higher inflationary expectations compared to men.

  • Economic theories explain this divergence by stating that women are ‘more pessimistic’ than men, attributing the pessimism & their innate characteristics.
  • A new study reveals that it is not the innate characteristics as much as the traditional gender roles that explain this divergence.

The Natural experiments

They are real-life circumstances that can be studied to determine the cause-and-effect relationship among sections of people with different exposure levels to an assumed causal factor.

  • If traditional gender roles are the primary reasons behind the gender inflation expectation gap, then the lockdown-imposed work-from-home (WFH) arrangements or loss of employment should contribute in closing this gap.

Two categories of occupations are studied

  • Homemakers (assumed to be dominated by women)
    • Homemakers report higher inflation expectations than financial sector employees.
    • This gap has narrowed over the last two years and has almost converged in March 2022.
    • A possible explanation of closing of the gap could be the gradual ‘experience effect’ of male-dominated financial sector employees.
  • Financial sector employees (assumed to be dominated by men)
    • It assumes individuals base their decisions on the information available to them.
    • It is based on the premise that actual personal experiences shape behaviour more than being informed about the outcome of the event.

Exam Track

Prelims Takeaway

  • Inflation and Impact of Inflation
  • Inflation Expectations Survey of Households (IESH)
  • Gender Inflation Expectation Gap

Mains Takeaway

Q. Increased inflation and price hike in fast moving consumer goods affects the poor more severely when compared to middle or high class societies, Justify.