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Surprise, Surprise: Consumers Do Not Believe the Fed's Inflation Projections


University of Michigan Survey Research Center surveys consumers monthly.  The Index of Consumer Expectations is one of two indexes compiled from consumer answers to these questions.  One of the routine questions posed relates to expected inflation for next year and for 5 to 10 years from now.  Judging by the average response to this question recent consumers clearly do not believe that the Fed either is aiming at or is capable of hitting its announced inflation target of 2 percent.  For one year out, the index of inflation expectations has averaged 3.2 percent over the past year and 3.1 over the past 5 years.  Consumer expectations of long-term inflation are roughly the same, averaging 2.9  percent over the past year and 3.0 percent over the past 5 years.

Caroline Baum of Bloomberg addresses the question of why consumers have ignored the Fed's widely ballyhooed inflation target of 2 percent  and the fact that CPI inflation has averaged only 1.5 percent over the past five years.   Her answer is enlightening:

Consumers either don't listen, don't care or derive their expectations from their own shopping cart. Food and gas comprise a big part of the household budget, and energy prices, at least, have been rising much faster than inflation. Just as consumers vote their pocketbook, they use their pocketbook to make judgments on where inflation is today and where prices are headed.

This is exactly correct.  In a classic passage written in 1949 (Human Action, pp. 23-24), Ludwig von Mises made this point and emphasized that consumers' rough and ready assessments of the prevailing  inflation situation are just as "scientific" as the arbitrary statistical constructs contrived by government economists to "measure" inflation.  Wrote Mises:

The pretentious solemnity which statisticians and statistical bureaus display in computing indexes of purchasing power and cost of living is out of place.  These index numbers are at best rather crude and inaccurate illustrations of changes which have occurred.  In periods of slow alterations in the relation between the supply of and the demand for money they do not convey any information at all. In periods of inflation and consequently of sharp price changes they provide a rough image of events which every individual experiences in his daily life.  A judicious housewife knows much more about price changes as far as they affect her own household than the statistical averages can tell.  She has little use for computations disregarding changes both in quality and in the amount of goods which she is able or permitted to buy at the prices entering into the computation.  If she "measures" the changes for her personal appreciation by taking the prices of  only two or three commodities as a yardstick, she is no less "scientific" and no more arbitrary than the sophisticated mathematicians in choosing their methods for the manipulation of the data of the market. . . . In practical life nobody lets himself be fooled by index numbers.

Whether or not the Fed is pursuing a blatantly political agenda by manipulating inflation statistics is wholly besides the point, which is that inflation is a multi-dimensional phenomenon including systematic changes in: relative prices;  the qualities of goods and services;  the structure of interest rates; and temperatures on various asset markets.   Even if we focus (too) narrowly on markets for goods and services, as mainstream economists do, there is no such thing as a uniform  "price level"  moving up and down.  There are only individual money prices changing at varying rates, at different times, and even in different directions.  As long as mainstream macroeconomists and central bankers fail to understand this lesson, we will continue to have recurrent booms and bubbles inevitably followed by financial meltdowns and grinding recessions.  

Joseph Salerno is academic vice president of the Mises Institute, professor emeritus of economics at Pace University, and editor of the Quarterly Journal of Austrian Economics.

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