Inflation Expectations Fall to Lowest Level Since Late 2020

Ahead of Wednesday's CPI release, which will give us the latest status report on the fight against inflation, a monthly report from the Federal Reserve Bank of New York showed that Americans are cautiously optimistic about the mid-term inflation trend. According to the latest Survey of Consumer Expectations, Americans’ inflation expectations for twelve months from now dropped to the lowest level since November 2020, while expectations for three years ahead fell to the lowest level since the survey's inception in June 2013.

In July, the median expected inflation rate one year ahead was 2.97 percent, virtually unchanged from 3.02 percent the previous month but down 0.57 percentage points from July 2023. Looking three years ahead, the median expected inflation rate fell steeply to 2.33 percent, a new series low. Both actual inflation and 12-months expectations peaked in June 2022, at 9.1 percent and 6.8 percent, respectively. Since then, inflation has cooled notably, coming down to 3.0 percent in June. The fact that Americans expect inflation to be at roughly the same level twelve months from now speaks volumes about the perceived stickiness of inflation and about how cautious people have become in their outlook.

Expectations play a crucial role in inflation dynamics, as expectations of future inflation influence wage negotiations and price-setting processes, which then feed into current inflation rates. When expectations of future inflation are high, prices and wages are likely to be set accordingly, creating a self-fulfilling prophecy.