Kiel Working Papers, Kiel Institute for World Economics
No 1339:
Inflation Expectations, the Phillips Curve and Monetary Policy
Fabien Curto Millet
Abstract: Conjectures about inflation expectations are inextricably
linked to our understanding of the relationship between the real and
monetary sides of the economy; yet, direct empirical research on the matter
has been scarce at best. This paper therefore examines the empirical
properties of inflation expectations data constructed on the basis of both
qualitative and quantitative surveys of consumers for a set of eight
European countries. The rational perceptions hypothesis is tested and
rejected by the data, a finding which in turn leads us to reject the
rational expectations hypothesis and casts doubt on the New Keynesian
Phillips Curve model. The popular alternative of using “rule-of-thumb”
expectations in such models empirically is also found to be unrobust.
Similarly, the conjecture by Akerlof et al. (2000) of a non-vertical
long-run Phillips curve arising from the presence of “near-rational”
expectations cannot be supported. The Mankiw and Reis (2002) Phillips curve
based on the idea of “sticky information” succeeds in its intuition of a
gradual adjustment of expectations, but its assumption of rational updating
is challenged by the data in the context of the natural experiment provided
by the UK's ERM disinflation. Instead, the adjustment mechanism for
expectations appears to display largely adaptive characteristics. Finally,
the paper provides some insights into the nature of the interaction between
monetary policy and inflation expectations.
Keywords: Inflation expectations, inflation perceptions, survey data, rationality, Phillips curve, consumers, expectations distribution, inflation targeting; (follow links to similar papers)
JEL-Codes: D84,; E31,; E52,; E58,; E61,; E65,; C22,; C42; (follow links to similar papers)
27 pages, June 2007
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