Survy Expcaions, Raionaliy and h Dynamics of Euro Ara Inflaion M. Forslls* and G. Knny Rvisd: Dcmbr 2005 Absrac This papr uss survy daa in ordr o analys and assss h mpirical propris of consumrs inflaion xpcaions in h uro ara and xplors hir rol in xplaining h obsrvd dynamics of inflaion. Th probabiliy approach is usd o driv quaniaiv simas of uro ara inflaion xpcaions from h qualiaiv daa from h Europan Commission s Consumr Survy. Th papr subsqunly analyss h mpirical propris of h simad inflaion xpcaions by considring h xn o which hy fulfil som of h ncssary condiions for raionaliy. Ovrall, h rsuls suggs ha consumrs xpcaions ar unlikly o saisfy h vry srong rsricions implid by h Raional Expcaions Hypohsis, whils a h sam im highlighing h significan and possibly improving informaion conn of such survyd indicaors as a prdicor of fuur inflaion. Morovr, h prdiciv prformanc of h survyd xpcaions a h ara-wid lvl also sms o rflc counrbalancing rrors a h counry lvl, a finding which cauions agains drawing srong conclusions abou raionaliy on h basis of ara-wid indicaors alon. Lasly, simas of a hybrid Phillips curv - which nss boh backward and forward-looking inflaion dynamics - suggss ha consumr xpcaions playd a rol in drmining h acual dynamics of uro ara inflaion ovr h priod 1985-2004. Ky Words: Inflaion xpcaions, Survys, Raionaliy, Hybrid Phillips curvs, Euro ara JEL Classificaion: D12, D84, E31 Europan Cnral Bank; Frankfur am Main; Grmany. Th viws xprssd in his papr ar hos of h auhors and do no ncssarily rflc hos of h Europan Cnral Bank. A prvious vrsion of his papr was publishd in h Journal of Businss Cycl Masurmn and Analysis (2004), Vol 1, No. 1, pp 13-41.
2 1 Inroducion Cnral banks hav long had an inrs in monioring h bhaviour of inflaion xpcaions in h conomy and in undrsanding h naur of h procss by which xpcaions ar formd. Two simpl xampls srv o highligh h crucial imporanc of accss o rliabl masurs of xpcd inflaion: Firs, o h xn ha hy provid a usful or unbiasd prdicor of fuur inflaion, masurs of xpcd inflaion may rprsn an imporan informaion variabl in a forward-looking analysis of pric dvlopmns. Scond, highr xpcaions of inflaion may lad mploys o dmand highr wag slmns, giving ris o cos-push ffcs on inflaion. Morovr in a siuaion whr ovrall inflaion is xpcd o ris, firms may b mor willing o pay highr wags bcaus hy bliv ha hy can mor asily pass on any chang in coss in h form of highr slling prics. 1 Mor fundamnally, howvr, macroconomic hory accords a pivoal rol o xpcaions of inflaion in undrsanding h funcioning of h conomy. From h prspciv of aggrga pric formaion, h Phlps-Fridman xpcaions augmnd Phillips curv posis a rlaionship whrby h acual chang in h pric lvl is drivn - in par - by aggrga xpcaions of is fuur chang. Convrsly, from h prspciv of businss cycl analysis, naural ra hory prdics ha h scal of any ral simulus from inflaion will crucially dpnd on h xn o which such inflaion is anicipad. Undr fully raional xpcaion, wih no sysmaic rrors in forcasing inflaion, only unxpcd changs in inflaion hav an impac on ral variabls such as oupu and unmploymn. Mor rcnly, h imporanc of inflaion xpcaions for aggrga pric dynamics has bn givn rigorous microconomic foundaions by considring h opimal pric-sing bhaviour of firms in a dynamic framwork undr imprfc compiion and som consrain on h frquncy of pric adjusmn (s, for xampl, Robrs (1995), Sbordon (2000a) and (2000b), Galí and Grlr (1999) and Galí, Grlr and Lópz-Salido (2001). 2 A dfining faur of 1 Chrisiano and Gus (2000) rm his h cos-push vrsion of h xpcaions rap hypohsis bcaus i poss a dilmma o h cnral bank which mus choos bwn producing h inflaion ha firms wan or risk puing h conomy ino a rcssion. Thr ar numrous ohr xampls of h rlvanc of inflaion xpcaions from a cnral bank s prspciv. Mos noably, inflaion xpcaions can b viwd as a drminan of mony dmand and hy ar likly o play an imporan rol in h monary ransmission mchanism (.g. by ffcing ral inrs ras). In h rcn liraur on monary policy ruls, inflaion xpcaions hav also bn posid o b among h ky argumns in a cnral banks racion funcion (s Taylor, 1999). Inflaion xpcaions, paricularly ovr mdium-rm horizons, also provid informaion on h crdibiliy of a cnral bank s commimn o achiving pric sabiliy. 2 Wolman (1999) provids a rcn rviw of nw Kynsian horis of inflaion.
3 his Nw Kynsian hory of pric dynamics is ha inflaion is a forward-looking phnomnon, drivn by is xpcaions of is fuur ralisaions. 3 In a rcn conribuion, Taylor (2000) has argud ha his xpcaions hory of pricing can hlp xplain h obsrvd lowr ras of inflaion in many indusrialisd counris in h 1990s compard wih h 1980s and h 1970s. 4 Similarly in a rcn mpirical analysis, Galí, Grlr and Lópz-Salido (2001) find ha forward-looking bhaviour is dominan in shaping h dynamics of inflaion (p. 17) boh in h uro ara and in h Unid Sas. All his srvs o mphasis h imporanc aachd o masurs of xpcd inflaion in macroconomic analysis. No surprisingly, a larg body of mpirical liraur xiss sking o boh sima and xamin h mpirical propris of inflaion xpcaions. On rack in his liraur has bn o focus on dirc survy masurs of xpcaions. Whil much of his liraur das from h 1970s and h 1980s, hr has bn a rlaiv darh of mpirical rsarch xamining daa from h 1990s (s, for xampl, Lloyd, 1999). 5 Givn h significan diffrnc in h bhaviour of inflaion in h 1990s compard wih h prcding wo dcads, and h possibl rol of inflaion xpcaions in xplaining hs dvlopmns, hr is a nd for mor up-o-da vidnc on h propris of survy masurs of inflaion xpcaions and paricularly givn h adopion of a singl currncy by wlv mmbr sas of h Europan Union of xpcaions in h uro ara. This papr conribus o his rnwd inrs in survy-basd masurs of inflaion xpcaions for h spcific cas of h uro ara and h fiv largs counris paricipaing in h singl currncy; namly Grmany, Spain, Franc, Ialy and h Nhrlands. In paricular, masurs of xpcd inflaion ar drivd from h 3 Th nhusiasm for his Nw Kynsian hory of pric dynamics is by no mans univrsal. For insanc, Fuhrr (1997a) using US daa finds ha xpcaions of fuur pric changs ar unimporan in xplaining pric and inflaion bhaviour. Similarly, Fuhrr (1997b) argus ha h fi of such Nw Phillips curvs can b rouinly improvd by adding lags of inflaion. As a rsul, h inflaionary procss xhibis a high dgr of prsisnc whrby h ffcs from a on-im shock will las wll byond h lifim of h iniial shock. Mor rcnly, again for h US, Robrs (2001) finds ha h Nw Kynsian modl rquirs addiional lags of inflaion ha suggs ha som fracion of h populaion uss a simpl univaria rul whn forming hir inflaion xpcaions. 4 Using a simpl saggrd pricing modl wih mark powr, Taylor (2000) illusras h crucial rol of xpcaions. In paricular, h shows ha h xn o which a firm machs an incras in coss or an incras in anohr firm s pric dpnds posiivly on how prsisn such changs ar xpcd o b. In ohr words, a dclin in prsisnc of ihr coss or inflaion may b associad wih a dclin in obsrvd mark powr. 5 Som noabl rcn xcpions ar Brk (1999) and Brk (2000), Robrs (1998), Gran and Lloyd (1998). S also Dusch Bundsbank (2001).
4 Europan Commission s Consumr Survy (EC survy) and hir prdiciv prformanc for fuur inflaion is xamind. Following on from his, in ordr o shd ligh on h raionaliy of inflaion xpcaions, h propris of h drivd sris ar xamind and assssd along a numbr of dimnsions. Firsly, w considr whhr or no consumrs hav corrcly anicipad h inflaion oucom on avrag by sing for any bias in h survy indicaor. Scond, w considr h dynamic adjusmn propris of xpcaions. Following on from his, in a s of h fficincy of consumrs inflaion xpcaions, h xn o which hy incorpora h informaion conaind in a broad s of macroconomic variabls is valuad. Lasly, w also xplor h possibl rol of survyd xpcaions in xplaining h obsrvd bhaviour of acual inflaion in h uro ara ovr h priod 1985-2004. This is carrid ou by simaing various Phillips curvs, which ns boh backward and forwardlooking pric dynamics. To anicipa our findings, our rsuls suggs ha consumrs inflaion xpcaions in h uro ara ar no fully raional, alhough hy may sill conain imporan informaion abou fuur pric dvlopmns. Using a hybrid vrsion of h Phillips curv, w also find a rol for consumrs xpcaions in xplaining h acual dynamics of inflaion wihin h uro ara. Hnc, as also suggsd by Galí, Grlr and Lópz-Salido (2001), our findings suggs a quaniaivly significan forwardlooking componn o h inflaionary procss in h uro ara. A h ara wid lvl, h backward-looking componn is also significan bu lss so. Morovr, his finding is gnrally robus across counris and wih rspc o various mpirical spcificaions of h Phillips curv. 2 Esimaing inflaion xpcaions from survy daa Economic survys provid a dirc sourc of informaion on xpcd inflaion. 6 For xampl, h EC Survy asks narly 20,000 consumrs in h uro ara for informaion on hir xpcaions for consumr pric rnds ovr h nx wlv monhs. Th survy is conducd a a naional lvl, and h rsuls for h uro ara ar compild by aggrgaing h counry daa using wighs basd on ach counry s shar in oal uro ara priva final consumpion xpndiur (a consan prics). 6 Th ohr main sourc is o driv inflaion xpcaions from h prics of radd financial asss. A common argumn favouring such masurs is ha hy ar likly o rflc h ru blifs of conomic agns whras rspondns o survys hav lil incniv o rpor hir ru xpcaions or h xpcaions upon which hy bas conomic dcisions.
5 Paricipans in h survy ar askd h following qusion, which is harmonisd across all counris: 7 By comparison wih wha is happning now, do you hink ha in h nx 12 monhs 1. hr will b a mor rapid incras in prics (S 1 ), 2. prics will incras a h sam ra (S 2 ), 3. prics will incras a a slowr ra (S 3 ), 4. prics will say abou h sam (S 4 ), or 5. prics will fall slighly (S 5 ). As h rsuls of his survy ar usually summarisd in h form of a balanc saisic, compud as a diffrnc among h proporion of rspondns oping for h diffrn rspons cagoris, his provids only qualiaiv informaion on h likly dircion of chang in inflaion in h nx 12 monhs. 8 Howvr, h analysis prsnd in his papr is conducd on a quanifid masur of inflaion xpcaions drivd using h so calld probabilisic approach. Rcn liraur (.g. Brk (1999) and Brk (2000)), building on h arlir conribuions of Carlson and Parkin (1975), Bachlor (1981, 1982 and 1986a) and Bachlor and Orr (1988) and ohrs, has furhr dvlopd his approach o obaining a quaniaiv sima of h xpcd ra of inflaion from qualiaiv survys such as hos carrid ou by h Europan Commission. An imporan faur of hs rcn advancs in mhodology is ha, unlik arlir approachs, long-rm unbiasdnss is no imposd in driving a masur of xpcd inflaion. Annx 1 prsns h dails undrlying his mhod in mor dail. 2.1 Rsuls for h uro ara Char 1 plos h drivd masur of inflaion xpcaions in h uro ara oghr wih h acual yar-on-yar ra of incras in h Harmonisd Indx of Consumr Prics (HICP) ovr h priod January 1986 o Spmbr 2005 (s Annx 7 Rspondns ar also givn h opion o rply ha hy do no hav any opinion abou h fuur bhaviour of prics. 8 Dnoing S i (for i = 1,2 3, 4 and 5) as h sampl proporions oping for ach of h fiv rspons cagoris, on widly rpord balanc saisic is calculad as (S 1 +½S 2 ) - (½S 4 +S 5 ).
6 2 for a full dscripion of h daa sourcs). 9 Th rsuls suggs a srong rlaionship bwn acual and xpcd inflaion. In paricular, alhough hr is som vidnc o suggs ha consumrs undrprdicd inflaion owards h nd of h 1980s, hy appar o hav broadly anicipad h rnd dclin in inflaion ovr h cours of h 1990s (from a high of 5.0% in July 1991 o only 0.8% in Novmbr of 1998). Indd, ovr h priod from h bginning of h 1990s o h sar of Economic and Monary Union in January 1999, h uro ara vidnc suppors a significan dgr of forward-looking informaion in h drivd xpcaions sris. In paricular, a h arawid lvl, consumrs appar o hav prformd much br han if hy had aachd a vry high wigh o pas inflaionary rnds whn forming hir xpcaions. For xampl, in July of 1991, inflaion sood a 5.0%. Howvr, in ha sam monh consumrs wr anicipaing an inflaion ra of 3.9% on yar ahad, which compard mor favourably wih h acual oucom for July 1992 (3.3%). This parn is rpad ovr much of h 1990s. Hnc, i suggss a rasonably raional anicipaion of h rnd dclin in inflaion ha would no hav bn possibl if consumrs simply would hav xrapolad in a backward-looking mannr pas inflaion whn forming hir xpcaions. Char 1: Expcd and acual inflaion: Euro ara 1986-2001 (annual ras of chang) 6 Expcd inflaion HICP oucom 5 4 3 2 1 0 Jan-86 Jan-88 Jan-90 Jan-92 Jan-94 Jan-96 Jan-98 Jan-00 Jan-02 Jan-04 To provid a mor quaniaiv valuaion of h xpcaions sris, Tabl 1 prsns wo sandard forcas prformanc saisics. Th firs saisic is h man rror, which shows h avrag forcas rror ovr h sampl priods. Hnc, a larg man rror provids vidnc of sysmaic ovr- or undr-prdicion. Th scond 9 Th xpcaions rpord for monh in char 1 wr formd in monh -12. Hnc, h diffrnc bwn h wo lins in Char 1 rprsns h xpcaional rror.
7 masur is h roo man squard rror (RMSE), which also provids a masur of accuracy. An imporan diffrnc bwn h man rror and h RMSE is ha h formr is lss snsiiv o vry larg xpcaional rrors or oulirs. For comparison rasons h prformanc masurs hav also bn calculad for wo alrnaiv masurs of xpcaions: (i) a naiv xpcaion which simply xrapolas h currn yar-on-yar ra as h xpcaion for h nx wlv monhs ( π = π 12 ) and (ii) a 23 forcas basd on an AuoRgrssiv (AR) quaion ( π = α + β iπ i ). Th prformanc saisics ar hn calculad for h whol sampl (Jan 1986-Oc. 2005) as wll as hr sub-sampls: h 1985-1989, 1990-1999 and 2000-2005. This brakdown of h sampl is somwha arbirary. Nonhlss, givn h obsrvd dclin in inflaion during h 1990s as wll as subsqun changs in h monary policy rgim, no las associad wih h inroducion of h singl currncy in January 1999, i is inrsing o xamin h sabiliy ovr im in h bhaviour and forcasing prformanc of consumrs inflaion xpcaions. i= 12 Tabl 1a: Man rror: Alrnaiv masurs of xpcd inflaion Man rror (full sampl) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions -0.01-0.27 0.33-0.97 0.49 0.20 Naïv -0.14-0.01-0.19-0.35-0.28-0.05 AR -0.24 0.37-0.44-0.74-0.36 0.76 Man rror (1980s) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions 0.34 0.14 0.41-1.20 1.61-0.40 Naïv -0.27 0.11-0.59-0.78-0.51-0.43 AR - - - - - - Man rror (1990s) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions -0.09-0.40 0.24-1.33 0.87 0.32 Naïv -0.27-0.20-0.29-0.44-0.46 0.13 AR -0.28 0.58-0.79-0.93-0.63 0.80 Man rror (2000s) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions -0.11-0.34 0.43-0.18-0.65 0.38 Naïv 0.18 0.22 0.24 0.09 0.19-0.10 AR -0.17 0.03 0.16-0.42 0.10 0.70
8 Tabl 1b: Roo man squard rror: Alrnaiv masurs of xpcd inflaion RMSE (full sampl) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions 0.81 1.36 0.94 1.98 1.85 1.21 Naïv 0.89 1.16 1.04 1.31 1.35 1.31 AR 0.85 1.36 0.91 1.37 1.37 1.37 RMSE (1980s) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions 1.20 1.42 1.32 2.17 2.59 0.92 Naïv 1.61 1.94 1.84 2.11 2.34 1.54 AR - - - - - - RMSE (1990s) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions 0.71 1.36 0.72 2.34 1.49 1.13 Naïv 0.56 0.88 0.70 1.20 0.92 1.02 AR 1.02 1.65 1.10 1.65 1.60 1.33 RMSE (2000s) uro ara Grmany Franc Ialy Spain Nhrlands Expcaions 0.63 1.32 0.94 0.88 2.02 1.49 Naïv 0.59 0.80 0.74 0.60 1.00 1.56 AR 0.43 0.64 0.45 0.68 0.85 1.42 A h ara-wid lvl, h prformanc saisics in Tabl 1 indica qui srongly h chang in h prformanc of h drivd xpcaion sris in h 1990s and h 2000s compard wih h la 1980s. Th abl suggss ha mos of h bias in xpcaions rlas largly o h la 1980s wih h man rror falling from 0.34 in h 1980s (indicaing a subsanial undrprdicion of inflaion on avrag) o only around -0.1 in h 1990s and h 2000s (indicaing a significanly smallr ovr prdicion on avrag). Similarly, hr is also an improvmn in rms of h RMSE, which falls from 1.20 o 0.63 bwn h 1980s and h 2000s. A sriking faur of h survyd xpcaions for h uro ara is hir rlaiv prcision as a prdicor of onyar ahad inflaion compard wih h wo ohr bnchmarks. Ovr h whol sampl priod boh h man rror and h RMSE ar lowr for h xpcaion sris han for h wo bnchmarks. Th prformanc of h masur of consumr xpcaions also compars rasonabl wll wih hos rpord for masurs of US inflaion xpcaions. For xampl, Thomas (1999) for h US obains RMSE for various onyar ahad inflaion xpcaions ha rang bwn 1.09 and 1.57. 10 Lasly, in rms of accuracy, h xpcaions sris also compar rasonably favourably wih h ouof-sampl forcass of various indicaor modls for inflaion. For US inflaion s, for xampl, Ccchi (1995) and Ccchi, Chu and Sindl (2000). For uro ara inflaion s Nicoli Alimari (2001). 10 Ths wr calculad ovr h priod 1983:3-1997:4.
9 Whn urning o h counris i appars ha h prformanc is gnrally wors compard o h uro ara aggrga rsuls. Rgarding h man rror, i urns ou ha a naïv mhod producs a br forcas for all fiv counris compard wih h simad survy indicaors (whn considring h whol sampl priod). Th RMSE analysis broadly suggss a similar conclusion wih h xcpion of h Nhrlands whr h xpcaion sris urns ou o b mos accura in prdicing fuur inflaion. Indd, h ou-of sampl rrors a h counry lvl ar gnrally considrably largr han for h ara as a whol. This finding suggss ha pars of h accuracy of h xpcaion sris a h ara-wid lvl is du o counrbalancing bhaviours a h counry lvl. I also suggss a nd for cauion abou infrncs abou raionaliy of xpcaions basd on h ara-wid lvl indicaor alon. 3 Propris of inflaion xpcaions Th vidnc dscribd in scion 2, paricularly a h uro ara-wid lvl, suggss ha h masur of xpcaions drivd from h EC survy may provid ponially usful informaion on acual fuur pric dvlopmns compard wih som simpl bnchmark alrnaiv masurs. In his scion, h propris of h drivd masur of xpcaions ar xamind mor formally. W firs rpor h rsuls of rgrssion-basd ss for unbiasdnss a ncssary condiion for raionaliy. Howvr, ss of bias shd ligh only on h bhaviour of xpcaions on avrag. Hnc, w also considr h dynamic propris of xpcaions and, in paricular, mploy im sris chniqus in ordr o invsiga h spd wih which xpcaions ar rvisd ovr im in h ligh of nw informaion abou fuur inflaion. Following on from his, h wak and srong-form fficincy of xpcaions is invsigad by sing h xn o which h xpcaions incorpora h informaion conaind in pas pric dvlopmns as wll as ha conaind in a broadr s of macroconomic variabls availabl a h im h xpcaions ar formd. 3.1 Long-run propris: Tsing for bias Bias rfrs o h limiing propris of xpcaions. In paricular, biasd xpcaions imply ha consumrs, on avrag, sysmaically undr or ovrprdic inflaion ovr h long run. A formal s for bias in h xpcaions sris can b carrid ou using h following quaion: π = α + βπ + u, (3.1)
10 whr π is h obsrvd inflaion ra in monh and π rprsns xpcaions for inflaion in monh and formd in monh -12. If h join null hypohsis H 0 : (α, β) = (0,1) canno b rjcd i can b concludd ha h xpcaions ar unbiasd in a saisical sns. In lin wih h prvious vidnc of an improvd prformanc of h uro ara xpcaions indicaor in h 1990s and h 2000s compard wih h 1980s, h hypohsis of unbiasd inflaion xpcaions is conducd for h full sampl priod and h hr sub-sampls dfind arlir. Th rsuls ar prsnd in Tabl 2 in h form of p-valus. Ovr h whol sampl, h rsuls suggs ha consumrs inflaion xpcaions hav bn a somwha biasd prdicor of inflaion 12 monhs ahad. This conclusion is rlaivly robus across counris and diffrn im priods. Howvr, in lin wih h rsuls in Tabl 1, a h ara wid lvl w ar unabl o rjc h hypohsis of unbiasd xpcaions in h 1990s subsampl Tabl 2: Ts for unbiasdnss, sub-priods, ( π = α + βπ + u ) (p-valus) 1980s 1990s 2000s 1985-2005 uro ara 0.00 0.26 0.00 0.02 Grmany 0.06 0.00 0.00 0.00 Franc 0.00 0.06 0.00 0.00 Ialy 0.00 0.00 0.00 0.00 Spain 0.00 0.00 0.00 0.00 Nhrlands 0.00 0.00 0.05 0.11 A closr look a h counry dimnsion rvals no major diffrncs in rms of bias compard wih h rsuls for h uro ara whn considring h full sampl and h hr sub-sampls. Howvr, whn looking a h 1990s sub-sampl i urns ou ha h xpcaion sris ar biasd for all counris dspi h fac ha i is unbiasd a h ara-wid lvl. This bhaviour is consisn wih h finding in Scion 2.1 ha par of h accuracy of h xpcaion sris a h ara-wid lvl is du o counrbalancing bhaviours a h counry lvl. Onc again, i suggss a nd o xrcis cauion whn drawing infrncs abou h raionaliy of uro ara consumrs inflaion xpcaions basd on ara-wid indicaors alon. 3.2 Dynamic propris: Th adjusmn of xpcaions Th abov ss for bias shd ligh on h qusion of whhr or no on avrag h drivd masur of consumrs inflaion xpcaions provid an accura sima of inflaion 12 monhs ahad. Howvr, ss of bias do no shd any ligh on h dynamics of h xpcaions formaion procss ovr im. From a mor dynamic prspciv, an imporan issu is h xn o which consumrs rvis hir xpcaions o rflc h flow of nw informaion, including hir knowldg of hir own prvious forcas rrors. A common ariculaion of h raional xpcaions
11 hypohsis is ha non-ovrlapping rrors in prdicing inflaion should b uncorrlad - ohrwis consumrs could hav improvd hir xpcaions by aking br accoun of hir pas rrors. In h prsn conx wih monhly daa on xpcaions for onyar ahad, h rrors ar ovrlapping and his may induc som posiiv auocorrlaion alhough his should dampn ou for lags grar han 12. Th viw ha h forcas rrors of raional agns should b broadly uncorrlad for lags grar han 12 is no undispud. For xampl, sinc h procss gnraing aggrga inflaion is uncrain, Cuckirman (1986) argud ha vn prfcly raional agns may no b abl o disinguish prmann from ransiory shocks. If his is h cas and if prmann shocks ar misaknly prcivd o b ransiory, agns may mak rpad on-sidd rrors in forming hir xpcaions (s also Lloyd, 1999). Th vidnc from h EC consumr survy is broadly consisn wih his viw. For xampl, Char 2 rpors h auocorrlaion funcion for hs rrors and whil hy dcay gradually ovr im, hr dos appar o b som posiiv auocorrlaion for lags grar han 12. Inrsingly, h corrlaion fads away somwha fasr for h fiv counris han for h uro ara as a whol. Howvr, vn if uncrainy abou h naur of h shocks affcing h inflaionary procss may giv ris o such prsisnc in xpcaional rrors, hy should no prsisn indfinily. In paricular, as argud in McCallum (1980), bcaus rrors ar cosly (.g. hy can lad o poor dcisions) purposful agns hav an incniv o acquir sufficin informaion o wd ou sysmaic xpcaional rror (s also Carlson, 1987). Char 2: 1.0 0.8 0.6 0.4 0.2 0.0-0.2-0.4-0.6-0.8-1.0-1 -3-5 -7-9 Expcaion rrors: Auocorrlaions uro ara d s fr i nl -11-13 -15-17 -19-21 -23-25 -27-29 -31-33 -35 Tim sris conomrics and, in paricular, coingraion analysis suggs an insighful way o invsiga h dynamic propris of inflaion xpcaions and, in paricular, h spd wih which consumrs rvis hir xpcaions o ak accoun of
12 h flow of nw informaion and wd ou any sysmaic rror. If acual and xpcd inflaion ar coingrad wih coingraing vcor [1,-1], i is possibl o sima an rror corrcion modl whrby h adjusmn of xpcd inflaion oward is fully raional valu can b xamind. 11 Th adjusmn paramr from h rror corrcion modl rvals imporan informaion on h xn and spd wih which consumrs adjus hir xpcaions oward h fully raional oucom. In addiion, wihin such a framwork, i is also insighful o s whhr hr is any fdback from xpcd inflaion o h acual inflaion oucom. Givn his ponial for fdback in boh dircions, w firs s for h xisnc of a coingraing rlaion bwn acual and xpcd inflaion. In a scond sp, a bi-varia rror corrcion sysm of h form givn by (3.1) blow is simad and is dynamic propris xamind. o p p φi π i + ψ i π i + α [ π π ] 1 1 i= 1 i= 1 π = α + + ε (3.1a) o p p φi π i + ψ i π i + α [ π π ] 1 1 i= 1 i= 1 π = α + + ε (3.1b) Undr h hypohsis of coingraion, on of h α, α 0. 12 An inrsing faur of his sysm is ha h quaion for xpcaions has a forward as opposd o a backward-looking dimnsion. In paricular, in h cas of quaion (3.1a), h s of h hypohsis α 0 ss whhr h chang in xpcaions (formd bwn priods -13 and -12) is such ha h lvl of inflaion xpcd for priod will b closr o h raional oucom (which is unknown a h im xpcaions wr formd). In h cas of quaion (3.1b), h s of h hypohsis α 0 xamins whhr h chang in acual inflaion also adjus in ordr o mainain a coingraing rlaion wih xpcd inflaion. Wihin such a sysm, i is also possibl o s for addiional shor-run dynamic ffcs associad wih h cofficins φ i, ψ i, φi and ψ i. As h prliminary sp in sing for h xisnc of such an rror corrcion rprsnaion, Tabl 3 rpors sandard uni roo ss for boh acual and xpcd 11 Ohr rcn paprs applying coingraion chniqus o shd ligh on h raionaliy of xpcaions includ Gran and Thomas (1998), Du and Ghosh (2000), Brk (1999) and (2000). S also Paqu (1992). 12 Grangr (1988) poind ou ha, if wo sris ar coingrad, hn hr mus b Grangr causaliy in a las on dircion.
13 inflaion ovr h priod 1985-2005. In gnral, h ss suggs ha boh acual and xpcd inflaion hav uni roos bu ha hy ar saionary whn diffrncd onc. Howvr, i is possibl o rjc h null hypohsis of a uni roo in h xpcaion rror suggsing ha boh acual and xpcd inflaion coingra wih known coingraing vcor [1, -1]. 13 Tabl 3: Uni roo ss Infl. d(infl.) Exp. d(xp.) rror uro ara -1.59-3.72 *** -2.24-16.21 *** -3.52 *** Grmany -1.90-14.96 *** -1.75-24.72 *** -2.62 * Franc -1.62-6.17 *** -3.57 *** -12.62 *** -4.98 *** Ialy -2.60 * -12.84 *** -1.92-23.82 *** -3.42 ** Spain -2.67 * -13.52 *** -3.25 ** -21.25 *** -4.05 *** Nhrlands -2.05-15.50 *** -2.12-6.50 *** -3.20 ** Nos: ADF prsns h augmnd Dicky-Fullr s-saisic for h null hypohsis of a uni roo in h indicad sris agains h alrnaiv hypohsis of saionariy. d() dnos h firs diffrnc of ach sris. *, ** and *** indica ha i is possibl o rjc h null of a uni roo a h 10%, 5% and 1% lvls of significanc, rspcivly. In a scond sp, h bi-varia rror corrcion modl (3.1a and 3.1b) is simad. Consisn wih h monhly frquncy of h daa, h lag lngh p is s qual o wlv. 14 Th quilibrium corrcion cofficins ( α o, α o ) and p-valus basd on F-ss for Grangr-causaliy associad wih h paramrs φ i, ψ i, φi and ψ i ar rpord in Tabl 4 for boh h uro ara and h individual counris. In h rgrssion for h chang in xpcaions, h adjusmn paramr on h xpcaional rror is significan in all insancs and suggss ha consumrs rvis hir xpcaions and adjus hm o b in lin wih h acual oucom. In rms of h spd of his adjusmn, givn h monhly frquncy of h daa, h simad cofficin (-0.10) implis qui low prsisnc in dviaion of acual and xpcd inflaion. 15 Ovrall hrfor, hs rsuls suggs ha consumrs rac qui quickly whn rvising hir xpcaions in h ligh of nw informaion and ha, whil boh acual and xpcd inflaion may drif apar in h shor-run, hy ulimaly rvr oward on anohr. Th ohr adjusmn cofficin ( α ), howvr, is no significan, hrby suggsing ha o 13 Addiional ss also suppor h hypohsis of coingraion bwn acual inflaion and h ra xpcd by consumrs. In paricular, using Johansn s maximum liklihood chniqu, boh h maximum ignvalu and rac saisics (s Hansn and Juslius, 1995) suppor h hypohsis of a singl coingraing vcor a h 90% lvl. 14 This was h lows numbr of lags ha was consisn wih srially uncorrlad rsiduals in h bi-varia sysm. 15 Absracing from h ohr shor-rm dynamics, his co-fficin implis a half-lif of dviaions from long-run quilibrium of lss han a yar. This vidnc is clos o ha rpord by Robrs (1998) for h US which implis ha xpcaions adjus 50% o 60% oward h fully raional oucom wihin a yar.
14 h adjusmn of acual inflaion plays no significan rol in mainaining h coingraing rlaion. Th finding ha xpcaions adjus owards acual inflaion, rahr han h ohr way around, suggss ha h procss gnraing inflaion is no srongly influncd by xpcaions, which in urn conrass wih Nw Kynsian horis of pric dynamics. In gnral, all of h abov findings ar also robus whn considring h counry dimnsion. Tabl 4: Error corrcion cofficins (cofficins and p-valus) xpcaions rgrssion Inflaion rgrssion F 1 F 2 F 3 F 4 α φ i 0 ψ i 0 α φ i 0 ψ i 0 uro ara -0.10 *** 0.10 0.00 0.00 0.10 0.00 Grmany -0.11 *** 0.00 0.00-0.02 0.79 0.00 Franc -0.13 *** 0.11 0.05 0.03 0.02 0.00 Ialy -0.12 ** 0.00 0.03 0.00 0.84 0.00 Spain -0.07 * 0.00 0.00 0.01 0.32 0.00 Nhrlands -0.13 *** 0.00 0.12 0.07 ** 0.84 0.00 α and α ) ar significan a h 10%, 5% and No: *, ** and *** indica ha h cofficins ( i 1% lvl, rspcivly. For h F-saisics, F (i= 1,2,3,4), h p-valus ar rpord. To shd furhr ligh on h dynamic inracion bwn acual and xpcd inflaion, Tabl 4 also rpors h p-valus for h ss ha h ohr shor-run cofficins φ i, ψ i, φi and ψ i can b xcludd from h bi-varia modl. Th rsuls suggs, a h ara-wid lvl, a significan rol for acual inflaion as drminans of changs in xpcaions in a Grangr-causal sns (F 2 ). Howvr, h fdback from xpcaions o acual changs in inflaion is qui wak and insignifican a sandard lvls (F 3 ). This causal rlaionship is rlaivly robus across h counris. 3.3 Tss of macroconomic fficincy A mor gnral formulaion of h raional xpcaions hypohsis is ha h xpcaional rrors should b orhogonal wih rspc o h informaion s ha was known o consumrs a h im hy formd hir xpcaions, i.. h x pos rror canno b xplaind by pas conomic dvlopmns. By disinguishing bwn h brah of h informaion s ha is assumd o b availabl o consumrs, i is possibl o disinguish diffrn dgrs of fficincy. In paricular, xpcaions ar said o b wak-form fficin if h xpcaional rror canno b xplaind by an informaion s ha includs only pas valus of inflaion. Srong-form fficincy, on h ohr hand, rquirs ha h xpcaional rror b orhogonal wih rspc o a much widr informaion s ncompassing many of h macroconomic variabls ha ar hough o hav an influnc on pric dvlopmns.
15 Th fficincy of consumrs inflaion xpcaions may b sd by simaing h following quaion: π π = δ + φ Ω + u, (3.2) 12 whr Ω 12 rprsns h s of informaion variabls ha ar rlvan for prdicing inflaion and ar availabl a h im h xpcaions ar formd. In h mpirical analysis, his includs pas inflaion as wll as a wid rang of ohr macroconomic indicaors capuring dmand and cos prssurs as wll as monary and financial condiions. In ordr o xploi h monhly frquncy of h xpcaions sris monhly daa ar mployd for ach of h informaion variabls if availabl. Howvr, for wags and GDP only a quarrly frquncy is availabl so h monhly xpcaions sris is avragd o produc simas a a quarrly frquncy. Whil in principl i is appropria o includ all variabls in a mulivaria conx his could lad o svr conomric complicaions (.g. mulicollinariy). Hnc, h fficincy of consumrs xpcaions is valuad by running a squnc of univaria rgrssions whr h dpndn variabl is h yar-on-yar chang in h informaion variabl a h im ha xpcaions wr formd. 16 A saisically significan φ suggss ha h ffc on inflaion from pas dvlopmns in h informaion variabl ( Ω 12 ) has bn incorrcly simad. Morovr, if h sign on h ru corrlaion bwn h informaion variabl and inflaion is known, i is also possibl o judg whhr a crain variabl s ffc on inflaion is ovr or undr simad by consumrs. Assuming a posiiv corrlaion bwn h informaion variabl and inflaion, a posiiv (ngaiv) φ suggss ha h ffc from ha paricular variabl on inflaion has bn undr (ovr) simad. If a ngaiv corrlaion is assumd, howvr, h inrpraion is rvrsd, i.. a posiiv (ngaiv) φ would suggs ha h ffc from ha paricular variabl on inflaion has bn ovr (undr) simad. Th consan (δ ) canno b inrprd in a maningful way. Th rsuls from h macro fficincy ss a ara-wid daa ar prsnd blow in Tabl 5a for h whol sampl priod as wll as for h arlir dfind sub-priods. 16 Hnc, his s ignors h ffc of publicaion lags and possibl rvisions on h informaion s availabl o consumrs.
16 Tabl 5a: Ts for fficincy, sub-priods, ( π π = δ + φ Ω 12 + u ) (simas of φ ) Dmand variabls full sampl 1980s 1990s 2000s GDP 0.30 *** 0.89 *** 0.23 ** 0.16 Indusrial producion 0.08 *** 0.20 *** 0.06 ** 0.09 *** Unmploymn -0.45 *** -3.18 *** -0.40 ** -0.44 *** Monary and Financial variabls M1 0.07 *** -0.34 0.06 0.10 *** M3 0.18 *** 0.67 *** 0.18 *** -0.10 3-monh inrs ra 0.17 *** 0.09 0.22 *** 0.05 Long-rm inrs ra 0.21 *** 0.21 0.26 *** 0.18 12-m. ral inrs ra 0.11 *** -0.66 ** 0.17 *** 0.03 USD/uro 0.00-0.06 *** 0.01-0.01 Nominal ff. xchang ra 0.00-0.08 *** 0.02-0.02 Pric & Cos variabls Inflaion 0.09-0.13 0.29 *** -0.78 *** Compnsaion p. mploy 0.08-0.74 0.08-0.67 ** Producr prics 0.03 0.19 *** 0.20 ** 0.01 Commodiy prics 0.00 0.02 *** 0.01 0.01 -Enrgy 0.00 0.01 0.01 0.00 ** -Non-nrgy 0.01 0.03 *** 0.00 0.01 No: ** and *** indica ha h cofficin is significan a h 5% and 1% lvl, rspcivly. Earlir findings basd on forcasing prformanc and ss of unbiasdnss indica ha xpcaions hav bcom mor raional ovr h sampl priod. This also sms o b h cas as rgards hir fficincy. Ovr h full sampl-priod pas pric dvlopmns do no xplain consumrs prdicion rrors hrby providing vidnc of wak form fficincy. As rgards h ohr variabls all cos indicaors and h wo uro xchang ra masurs also do no xplain som of h prdicion rror. Howvr, consumrs inflaion xpcaions do no appar o b fully fficin wih rspc o h informaion conaind in h dmand variabls and h monary aggrgas or som of h ohr inrs ra variabls. 17 Looking a h hr subsampls hr is, howvr, clar vidnc of an improvmn in rms of fficincy. In h firs sub-sampl hr ar n variabls ha significanly xplain h rrors, whil in h hird sub-sampl hr ar six variabls which nr wih a saisically significan cofficin. As rgards h rol of M3 in xplaining h xpcaional rror h rsuls ar paricularly inrsing givn h monary policy sragy ha has bn adopd by h ECB. Ovr h whol sampl and for mos sub-sampls,φ is posiiv, suggsing ha consumrs hav undrsimad is impac on inflaion (assuming a posiiv rlaionship bwn mony and inflaion). As rgards h formr variabl his finding is paricularly inrsing givn h monary policy sragy ha has bn adopd by h 17 Th consisn lack of fficincy wih rspc o monary variabls ha is found for h uro ara is a odds wih h vidnc rpord in Ball and Croushor (1998) for US inflaion xpcaions.
17 ECB. In paricular, sinc consumrs hav no gnrally akn ino accoun h informaion conaind in monary aggrgas whn forming hir xpcaions, his rsuls nds o suppor h indpndn and incrmnal informaion rol ha is assignd o M3 in h sragy. Tabl 5b: Ts for fficincy, uro ara counris, ( π π = δ + φ Ω 12 + u ) (simas of φ ) Dmand variabls uro ara Grmany Franc Ialy Spain Nhrl. GDP 0.30 *** 0.42 *** 0.09 *** 0.18 *** 0.13 *** 0.26 *** Indusrial producion 0.08 *** 0.18 *** 0.00 0.08 0.03 0.08 *** Unmploymn -0.45 *** -0.07 *** 0.00 0.00-0.01-0.02 *** Monary and Financial variabls M1 0.07 *** 0.05-0.01 0.08 ** 0.10 ** -0.02 M3 0.18 *** -0.05 0.02-0.21 *** 0.12 ** 0.09 ** 3-monh inrs ra 0.17 *** 0.53 *** 0.02-0.20-0.10 0.54 *** Long-rm inrs ra 0.21 *** 0.62 *** 0.03-0.05 0.09 0.57 *** 12-m. ral inrs ra 0.11 *** 0.14 0.06-0.25 *** 0.26 *** 0.11 ** USD/uro 0.00-0.02-0.02 ** -0.02 0.04 ** 0.03 ** Nominal ff. xchang ra 0.00-0.01 0.00 0.05 *** -0.05-0.10 ** Pric & Cos variabls Inflaion 0.09-0.17 0.09-0.58 *** 0.16 0.03 Compnsaion pr mploy 0.08-0.04 0.17-0.22 *** 0.15-0.01 Producr prics 0.03 0.10 0.04-0.21 *** 0.09 0.12 *** Commodiy prics 0.00 0.01 0.00 0.00 0.00 0.02 *** -Enrgy 0.00 0.01 ** 0.00 0.00 0.00 0.02 *** -Non-nrgy 0.01 0.00 0.01 0.03 ** 0.02 0.01 No: ** and *** indica ha h cofficin is significan a h 5% and 1% lvl, rspcivly. Tabl 5b rpors h dgr of significanc of φ for h uro ara as wll as h counris for h whol sampl priod. Th rol of h various variabls in xplaining h xpcaional rror diffrs qui a lo bwn h counris wih lil vidnc agains ovrall fficincy in Franc and much srongr vidnc in counris such as Th Nhrlands, Ialy and Spain. Ovrall, h vidnc from h fficincy ss suggss a wak or inrmdia rahr han a full form of raionaliy wih consumrs aking ino accoun a wid ranging bu no compl s of informaion in forming hir xpcaions. In addiion, consisn wih h rsuls rlaing o bias, hr is vidnc of growing raionaliy ovr im. Howvr, h highr dgr of fficincy may no only b du o grar raionaliy on h par of consumrs. Euro ara inflaion has dclind ovr h las dcads and bcom lss volail. This, in combinaion wih grar cnral bank indpndnc and crdibiliy, has mad i asir o prdic fuur inflaion. Hnc, consumrs may hav bcom mor fficin a prdicing inflaion bu policy makrs may also hav mad h job asir han i was 10 or 20 yars ago.
18 4 Expcaions and inflaion dynamics Th prcding scions hav shown ha h consumr survy masur of inflaion xpcaions fulfils som alhough far from all of h ncssary condiions for raionaliy. Howvr, as discussd in h inroducion, a ky insigh of h raional xpcaions hypohsis is ha raional xpcaions of inflaion hav a srong influnc on acual inflaion. This viw has bn r-ariculad in rcn nw Kynsian modls of pric dynamics. 18 Th conribuion of h Nw Kynsian modls is o mphasis h rol of nominal rigidiis in inrpring h Phillips curv. In paricular, h rason why xpcaions mar is bcaus hr is som consrain on h frquncy of pric adjusmn and as a rsul, an opimising firm will parly incorpora xpcd fuur changs in coss (or in ohr firms prics) ino currn prics (s, for xampl, Robrs (1995), Robrs (1998), Sbordon (2000a) and (2000b), Galí and Grlr (1999) Galí, Grlr and Sólido Lopz (2001)). As a rsul, hs auhors conras h radiional Phillips curvs whr h impac of xpcaions is capurd solly by pas lags of inflaion wih h Nw Phillips Curv (NPC) whr inflaion is a ruly forward-looking phnomnon. Dnoing D as an xcss dmand masur, hs wo divrgn viws of inflaion dynamics ar rprsnd by quaions (4.1) and (4.2) blow: π = γ π + D (4.1) b 1 β 1 π = γ π + + D (4.2) f 1 β 2 Th diffrnc bwn (4.1) and (4.2), i.. bwn whhr or no inflaion is a backward as opposd o a forward-looking phnomnon, is of mor han jus acadmic inrs. For xampl, undr (4.2) if a cnral bank announcd a mov o rduc inflaion and if his announcmn was fully crdibl and hrby ld o a rducion in xpcaions, hn acual inflaion could fall wihou h nd for any rducion in oupu. Howvr, undr (4.1), h procss of disinflaion always implis a rducion in oupu. Mor gnrally, h disincion bwn backward- and forward-looking inflaion dynamics also has imporan implicaions for a cnral bank amping o assss in ral im h inracion bwn h businss cycl and inflaion. For xampl, if inflaion is forward-looking hn i will nd o lad (i.. hlp prdic) fuur changs in oupu. This can b sn by rcursivly solving (4.2) forward o obain an xprssion for currn priod inflaion as a (discound) wighd sum of currn and fuur dviaions of oupu from is sady-sa valu (s for xampl Galí, Grlr and Lópz-Salido, 2001). Convrsly, if inflaion is purly backward looking and primarily 18 Wolman (1999) provids a rcn survy of hs modls.
19 drivn by pas pric dvlopmns, i will nd o lag (or b drivn by) h businss cycl. Givn h prvious findings on h informaion conn of h EC consumr survy daa on inflaion xpcaions, such daa provid an inrsing basis on which o s h rol of xpcaions in h inflaionary procss. 19 To xamin his rol, appnding a cos shock variabl ( Z ), a hybrid modl which ns (4.1) and (4.2) may b simad. 20 This is givn by (4.3) blow: π = α + γ f π + 4 + γ bπ 4 + βd + δ Z + u (4.3) In applying (4.3) o h daa, w us non-ovrlapping quarrly obsrvaions of h yar-on-yar chang in prics: π dnos h annual inflaion ra in quarr whil π 4 is h annual inflaion ra in quarr -4. Similarly π + 4 is h avrag of h hr monhly xpcaions survyd in quarr for h nx 12 monhs. In ordr o nsur robusnss of h rsuls wih rspc o h chosn masur of xcss dmand, wo alrnaiv proxis for D ar considrd. Firs, a sandard oupu gap is considrd dfind as h log of acual GDP in h uro ara minus h log of ponial GDP (simad using a HP filr). Scond, w also considr h primiiv vrsion of h NPC suggsd by Galí al. (2001) according o which h dviaions in ral marginal coss from hir sady sa valu should rplac h radiional and mor ad hoc oupu gap masurs. Th dviaion of ral uni labour coss from hir sampl man is usd as a proxy for marginal coss. Th ral pric of oil is usd o capur h impac of ransiory cos shocks (Z ). Th quaions ar simad ovr h priod 1985Q1-2004Q4 (80 obsrvaions). Tabl 6a rpors h cofficins from h simad hybrid Phillips curvs. Th wo quaions appar o capur qui adqualy h dynamics of inflaion ovr h sampl priod. A sriking faur a h ara-wid lvl is ha for boh spcificaions, 19 In paricular, from h nw Kynsian prspciv, h on-yar ahad horizon for h xpcaions from h consumr survy should broadly capur h horizon ovr which coss or prics ar sicky. 20 Galí and Grlr (1999) driv a hybrid vrsion of h NPC by assuming an conomy populad by wo groups of firms. On group ss prics in a forward looking way givn h consrains on pric adjusmn and using all h availabl informaion on xpcd fuur coss. Th rmaining s of firms bas hir prics on pas pric dvlopmns alon.
20 h survyd masur of inflaion xpcaions nrs wih a highly significan posiiv cofficin, which is clos o uniy. Th rsuls a h counry lvl ar fully consisn wih his, alhough hy indica slighly lowr cofficins (wih h xcpion of h Nhrlands). This suggss o a crain dgr a forward-looking dimnsion o h inflaionary procss wihin h uro ara and suppors h findings in Galí al. (2001). Howvr, h backward-looking componn is also mosly significan bu quaniaivly lss imporan. Surprisingly, h ral pric of oil dos only nr significanly in h cass of uro ara, Franc and h Nhrlands. Tabl 6a: Esimas of hybrid Phillips curv, α + γ π + γ π + β D + Z + u ( π = f + 4 b 4 1 δ ) Oupu gap α γ f γ b β 1 δ r 2 n uro ara -0.54 ** 0.87 *** 0.35 *** 0.05 0.00 * 0.83 80 Grmany 0.27 0.53 *** 0.22 0.14 0.01 0.57 80 Franc 0.26 0.55 *** 0.41 *** -0.05 0.01 ** 0.75 80 Ialy 0.41 * 0.41 *** 0.39 *** 0.15 0.00 0.88 80 Spain 0.15 0.40 *** 0.59 *** 0.07 0.00 0.67 75 Nhrlands -0.01 1.06 *** 0.09 0.45 *** -0.01 0.73 80 Ral uni labour cos gap α γ f γ b β 1 δ r 2 n uro ara -0.40 0.94 *** 0.24 ** 0.06 * 0.00 ** 0.84 80 Grmany 0.14 0.57 *** 0.25 * -0.01 0.01 0.56 80 Franc 0.70 ** 0.49 *** 0.31 *** 0.07 * 0.01 ** 0.76 80 Ialy -0.57 * 0.58 *** 0.41 *** -0.11 *** 0.00 0.90 80 Spain 0.13 0.44 *** 0.57 *** 0.05 0.00 0.68 75 Nhrlands 0.01 1.07 *** 0.07-0.07-0.01 ** 0.65 66 No: *, ** and *** indica ha h cofficin is significan a h 10%, 5% and 1% lvls, rspcivly. Tabl 6b rpors h rsuls of similar rgrssions bu undr h rsricions ha h wighs on h backward and forward looking componns sum o uniy. This rsricion is accpd only (a h 5% lvl of significanc) in h quaions using h oupu gap for Franc, Spain and Nhrlands. Howvr, in all quaions using h dviaion from ral uni labour coss, including uro ara, his rsricion is accpd. For boh spcificaions h rol for xpcaions in drmining acual inflaion dynamics is srongly mainaind. Howvr, h wigh on pas inflaion and, hnc h backwardlooking componn in h inflaion procss, is significan in mos uro ara counris. Ths finding ar hrfor mor in favour of h hybrid vrsion of h NPC han a pur forward-looking vrsion.
21 Tabl 6b: Rsricd simas of hybrid Phillips curv, α + γ π + ( 1 γ π + β D + Z + u ) ( π = f + 4 f ) 4 2 δ Oupu gap α γ f 1 γ f β 2 δ r 2 n uro ara 0.00 0.61 *** 0.39 *** 0.15 ** 0.00 0.81 80 Grmany -0.18 0.63 *** 0.37 ** 0.04 0.01 * 0.54 80 Franc 0.19 * 0.60 *** 0.40 *** -0.06 0.01 ** 0.75 80 Ialy -0.52 *** 0.47 *** 0.53 *** 0.15 0.00 0.83 80 Spain 0.11 0.41 *** 0.59 *** 0.07 0.00 0.68 75 Nhrlands 0.24 ** 0.91 *** 0.09 0.47 *** -0.01 0.73 80 Ral uni labour cos gap α γ f 1 γ f β 2 δ r 2 n uro ara 0.07 0.77 *** 0.23 * 0.07 ** 0.00 * 0.83 80 Grmany -0.19 0.65 *** 0.35 ** -0.03 0.01 * 0.54 80 Franc 0.27 * 0.66 *** 0.34 *** 0.03 0.01 ** 0.75 80 Ialy -0.60 *** 0.58 *** 0.42 *** -0.11 *** 0.00 0.90 80 Spain 0.14 0.43 *** 0.57 *** 0.05 0.00 0.68 75 Nhrlands 0.26 0.90 *** 0.10-0.11-0.01 ** 0.65 66 No: *, ** and *** indica ha h cofficin is significan a h 10%, 5% and 1% lvls, rspcivly. Lasly, in ordr o chck for sabiliy, Char 3 plos rcursiv simas of h rsricd paramr on consumrs xpcaions in ach of h wo modls for h uro ara. Whil hr is som vidnc ha h wigh aaching o h forward looking componn has risn in h ral uni labour coss spcificaions bu falln for h oupu gap quaion, h simad paramrs rang bwn 0.61 and 0.77. Th sabiliy of h cofficins a h counry lvl is broadly similar. Char 3: Hybrid Phillips curv - Rcursiv paramr simas ( γ f ) 0.85 0.80 0.75 0.70 0.65 0.60 0.55 0.50 Oupu gap Ral uni labour coss 1990Q1 1990Q4 1991Q3 1992Q2 1993Q1 1993Q4 1994Q3 1995Q2 1996Q1 1996Q4 1997Q3 1998Q2 1999Q1 1999Q4 2000Q3 2001Q2 2002Q1 2002Q4 2003Q3 2004Q2
22 5 Conclusions Survys ar usful bcaus hy provid indpndn (or rlaivly non-modl dpndn) masurs of inflaion xpcaions, a ky variabl ha a cnral bank can us in is dsign of an opimal monary policy gard oward h achivmn of pric sabiliy. This papr analyss and asssss h mpirical propris of consumrs inflaion xpcaions in h uro ara ovr h priod from h mid 1980s o h nd of 2005. Using h approach s ou in Brk (1999), quaniaiv simas of uro ara inflaion xpcaions ar drivd from h qualiaiv daa from h Europan Commission Consumr Survy. Th papr subsqunly analyss h mpirical propris of h simad inflaion xpcaions by considring h xn o which hy fulfil som of h ncssary condiions for raionaliy. Th rsuls suggs consumrs inflaion xpcaions in h uro ara ar no fully raional, alhough hy may sill conain imporan informaion abou fuur pric dvlopmns. In paricular, compard wih ohr bnchmark indicaors of xpcd inflaion, consumrs xpcaions a h ara wid lvl ar shown o provid a rasonably accura prdicor of inflaion on-yar ahad. Alhough h survyd xpcaions ar found o b an unbiasd prdicor of fuur pric dvlopmns in h 1990s, ovr h whol sampl h vidnc of bias in xpcaions is much srongr. Ths rsuls a h ara-wid lvl also sm o rflc counrbalancing bhaviours a h counry lvl, a finding which cauions agains drawing srong conclusions abou raionaliy on h basis of ara-wid indicaors alon. Howvr, a boh h ara-wid and counry lvls, hr is vidnc ha h lvl of xpcd inflaion and h raional inflaion oucom ar coingrad. As a rsul, consumrs ar shown o gradually adjus hir xpcaions in ordr o wd ou any sysmaic xpcaional rror. Lasly, consumrs xpcaions in h uro ara hav no always complly incorporad h informaion conaind in a broad s of macroconomic variabls. A furhr imporan faur of h mpirical analysis has bn h invsigaion of ponial changs ovr im in h propris of h drivd xpcaions sris. In his rgard, hr is som vidnc of growing raionaliy in h sns ha xpcaions hav bcom a mor accura, lss biasd and mor fficin prdicor of inflaion ovr h 1990s and 2000s compard wih h 1980s. Ovrall, hrfor ar analysis would suggs ha consumrs xpcaions ar unlikly o saisfy h vry srong rsricions implid by h Raional Expcaions Hypohsis, whils a h sam im highlighing hir significan and possibly improving informaion conn. In lin wih his, as suggsd by rcn nw Kynsian modls of inflaion w hav also xamind h rol of h survy xpcaions in xplaining acual inflaion dynamics. Esimas of a hybrid Phillips curv which, nss backward as wll
as forward-looking inflaion dynamics - suggss ha consumr xpcaions hav playd a rol in drmining h obsrvd bhaviour of inflaion ovr h priod 1985-2004. Ovrall, hrfor, our rsuls undrlin h imporan informaion conn of survy daa in h analysis of uro ara inflaion. 23
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