The Fed's Inflation Survey That The Fed Would Rather Not Hear

U.S. consumers think one-year domestic price inflation will run 50-100% higher than the current headline Consumer Price Index that Wall Street uses to value financial assets. That surprising finding doesn’t come from the fringe "Inflation is nigh, repent!" camp; as ConvergEx's NBick Colas points out, it is the central observation of the New York Federal Reserve’s Survey of Consumer Expectations. This relatively new but rigorously designed monthly dataset polls 1,200 American households on a range of financial questions, from inflation expectations to household finances and labor market conditions. The news The Fed is hearing from the survey must be a bit tough to hear. Inflation expectations are significantly higher than their "Target" of 2% already, meaning any acceleration in prices will "Feel" higher than the central bank’s notional goals.

Via ConvergEx's Nick Colas,

...Less than a third of respondents expect higher interest on their bank deposits over the next year, they expect home price to rise 4% over the same period and food/college expenses to rise 5% and 8%, respectively.

There’s more to inflation than meets the CP-eye...

If the Age of the Internet has a philosophical cornerstone, it may well be engraved: “People like to talk.  About themselves.  About others.  About anything.  So let them talk”.  The Facebook post, the tweet, the Instagram picture, the Buzzfeed questionnaire…  Self-expression is the Lake Victoria of Web 2.0’s Nile River of content.  And everyone from the White House (online petitions) to the U.K. prison system ( leverages technology to engage a broader – and chattier - population.
And while they might be slightly late to the party, the New York Federal Reserve is now using the Internet to help with the U.S. central bank’s efforts to understand consumer inflation expectations. No, it’s not quite as exciting as a “Which Disney princess are you?” survey on Buzzfeed, but the outcomes from this effort are (hopefully) more relevant to society as a whole. It is called the Survey of Consumer Expectations – here is a brief historical summary of the effort:

In the fall of 2007, the NY Fed began studying ways to improve their understanding of consumer expectations. They worked with everyone from the RAND Corporation to other Fed branches and psychologists that specialize in survey design. Their three areas of focus were household finance, labor and inflation expectations, all through the lens of “Real world” household surveys.


Researchers settled on a monthly Internet survey of about 1,200 households, each of which received $15 for completing a questionnaire. The NY Fed sees about a 60% response rate for new participants and an 80% rate for repeat respondents. The survey uses a rotating panel of survey takers to maintain some much needed month-to-month continuity.


The survey consists of a repeating set of questions as well as special non-repeating topics. The items which appear every month include queries on household expectations for: future inflation, wage growth, home prices, various critical commodities, household income and spending, taxes, credit access and job search.


This month will mark the one-year anniversary of the dataset public history.  There are several links at the end of this note if you would like to see more details about the survey and download the detailed data.

As you cull through the results of the NY Fed’s new foray into Internet surveys, the first thing that strikes you is just how different the results are from common Wall Street wisdom about critical issues like inflation and interest rates. Granted, there are only 11 months of data so far, and this is a new effort.  But still…  Consider the following points:

According to the May data (last available) for the Survey of Consumer Expectations, respondents believe one-year inflation will run 3.2% to 4.3%.  Those are the median and point estimates – the survey question here is structured as a set of probabilities for 0-2% future inflation, 2-4%, and so forth. For reference, the last Consumer Price Index readings were 1.9% (Core) and 2.1% (Headline), and the May Personal Consumption Expenditures Price Index was 1.8%. Essentially, consumers in this survey either see inflation up 50% to +100% higher in the next 12 months, or they simply feel that current government inflation data underestimates their current inflation rates. Or both, of course…


In a June 24, 2014 speech on the survey, the research head at the NY Fed James McAndrews discussed this dichotomy. One reason given: the “high right tail” created by select respondents – in other words, the propensity for some of the surveyed population to give answers that are much higher than the average. The answer to this problem: “Public information campaigns” to get the truth out.  When you look at the demographic details of those respondents who generally estimate higher levels of future inflation, you see that they tend to have lower levels of educational achievement. That means they, statistically speaking, probably have lower incomes. Another explanation for the “Right tail” respondents therefore falls to hand: they feel the whipsaws of food and fuel inflation more than higher income households. It may not be an information issue, in other words, for a lower income household simply feels higher prices for necessities more acutely than one with greater resources.


The NY Fed survey also surveys other useful measures of consumer expectations, such as the survey set’s estimate of future appreciation in house prices. Here, the respondents are fairly optimistic, with a consensus estimate of 4.0% as of May 2014.


The two cost items that consumers seem most concerned about are medical care and college education. The forecast price increases over the next year are: medical care: 9.5% and college cost inflation: 7.9%. The other items in the NY Fed survey are rent, gas and food – all forecast by the survey respondents to run between 4.6% and 6.0%. Again, these components are ones more keenly felt by lower income households as they make up a greater percentage of their typical monthly budget.


On the issue of wage growth, the population in the NY Fed survey has grown more cautious in recent months. Hopes for 2.4% growth earlier in 2014 have given way to 2.0% in the May results.  Interestingly, this is not due to greater job insecurity. Estimates by the survey respondents of losing their job involuntarily remain at 16.5%, essentially unchanged from the beginning of the year. Since this is a fairly new dataset there is no color on how the population felt in 2007, or during the housing boom of the mid-2000s.


A total of 14.2% of those answering the NY Fed’s online survey thought there was a chance of their not being able to make a minimum payment on their outstanding debt burden. That is down from the 17.2% of respondents who answered that question in September 2013, but still represents one in seven households who answer the questionaire.


Only 28.6% of households in the survey feel that they will be able to earn higher rates on their savings in a year’s time. Clearly, low interest rates have had their intended effect of convincing savers that they must invest their money in capital markets to achieve a return higher than inflation. But the recent Fed chatter about raising short-term interest rates hasn’t yet filtered through to the population as a whole.


Survey respondents estimate one-year wage growth at just 2.3%, well below their estimates of future price inflation. That’s a telling answer for a host of reasons. First, it helps explain the choppy economic recovery of the last year, winter weather notwithstanding. Consumers who expect a lower quality of economic life in the future are not ideal candidates for higher spending. It also speaks to why economic growth is likely to remain muted in the future.

In short, you have to give the NY Fed an immense amount of credit for the Survey of Consumer Expectation, and not just for embracing the technology of online surveys. The news they are hearing from the survey is a bit tough to hear. Inflation expectations are significantly higher than their “Target” of 2% already, meaning any acceleration in prices will “Feel” higher than the central bank’s notional goals. How that plays out in the coming years will be hard to ascertain. Still, the inclusion of rigorous consumer-based surveys is clearly a step in the right direction.


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