Abstract
PurposeThe author analyzes households' inflation expectations data for India, collected quarterly by the RBI for more than a decade. The contribution of this paper lies in two folds. First, this study examines the relationship between relatively recent inflation expectations survey of households (IESH) and the actual inflation for India. Secondly, the author employs a structural VAR with the time period 2006 Q2 to 2020 Q2 on inflation expectation survey data of India. A short-term non-recursive restriction is imposed in the model in order to capture the simultaneous co-dependence causal effect of inflation expectation and realized inflation.Design/methodology/approachThis paper studies the dynamic behavior of inflation expectations survey data in two folds. First, the author analyzes the time series property of the survey data. The author begins with testing the stationarity property of the series, followed by the casual relationship between the expected and actual inflation. The author further examines the short-run and long-run behavior of the IESH with actual inflation. Employing autoregressive distributed lag and Johansen co-integration, the author tested if a long-run relationship exists between the variables. In the second approach, the author investigates the determinants of inflation expectations by employing a non-recursive SVAR model.FindingsThe preliminary explanatory test reveals that inflation expectation is a policy variable and should be used in monetary policy as an instrument variable. The model identifies the price puzzle for India. The author finds that the response of inflation to a monetary policy shock is neutral. The results also indicate that the expectations of the general public are self-fulfilling.Originality/valueIESH has only commenced from September 2005, hence is relatively new as compared to other survey in developed countries. Being a new data set so far, the author could not locate any study devoted in analyzing the behavior of the data with other macroeconomic variables.
Highlights
Every central bank faces the challenge of keeping the inflation rate within reasonable limits
Our study reveals inflation expectations survey data to be stationary at the first difference and indicates a causal relationship between actual consumer price index expectations in India (CPI) and wholesale price index (WPI) inflation and the expected inflation
We investigate the presence of a unit root with the following four tests – augmented Dickey–Fuller (ADF), Phillips Perron (PP), Dickey–Fuller generalized least square (DF-GLS), and Ng-Perron
Summary
Every central bank faces the challenge of keeping the inflation rate within reasonable limits. Our study reveals inflation expectations survey data to be stationary at the first difference and indicates a causal relationship between actual consumer price index expectations in India (CPI) and wholesale price index (WPI) inflation and the expected inflation. Employing autoregressive distributed lag (ARDL) and Johansen co-integration, we test if a long-run relationship exists between actual CPI and WPI inflation and households’ inflation expectations survey data.
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