What is your ideal inflation rate?

One of the mandates of the Federal Reserve System is to promote stable prices in the United States. To achieve price stability, the Federal Reserve targets a long-run inflation rate of 2 percent. Is the 2-percent inflation rate what consumers prefer?

In their working paper, “Inflation preferences” (National Bureau of Economic Research, Working Paper 32379, April 2024), authors Hassan Afrouzi, Alexander Dietrich, Kristian Myrseth, Romanos Priftis, and Raphael Schoenle investigate households’ inflation preferences versus the Federal Reserve target. Specifically, the authors examine the divergence of preferred inflation preferences between the population and the Federal Reserve. They also discuss if the Federal Reserve can narrow the gap between their preferred inflation rate and consumers by communicating economic theory.

Afrouzi and colleagues conducted a survey of U.S. residents to gauge what their unconditional inflation preference was. The results of the survey found that, on average, consumers said they preferred an inflation rate of zero percent. The median inflation rate of respondents was 0.2 percent. Over 80 percent of survey respondents said they wanted a lower long-term inflation rate than that of the Federal Reserve target of 2 percent. Almost a quarter of respondents (24 percent) said they preferred deflation.

The survey respondents’ demographic and socioeconomic characteristics were highly correlated to their inflation preferences. Demographic characteristics (like race, sex, and ethnicity) accounted for 47 percent of the variation in responses, while socioeconomic characteristics (like income and education) accounted for 39 percent. The researchers also provided a list of economic narratives (or models) for survey respondents to indicate their beliefs, but these narratives accounted for only 14 percent of the variation in a respondent’s inflation preference. Older households and respondents who earned most of their income through wages preferred lower inflation rates. They preferred lower inflation rates because they believed their cash holdings and wages would be eroded by a higher inflation rate. Respondents who believed that having a low inflation rate leads to diminishing economic activity and asset-rich respondents both preferred a higher inflation rate.

To learn if survey respondents could have their preferred inflation rate changed by the communication of economic theory, Afrouzi and colleagues conducted a randomized control trial. The authors split respondents into six groups (a control sample and five treatment groups) and presented them with economic narratives that corresponded to an optimal inflation rate. The authors learned that by communicating specific economic theories to respondents, the respondents shifted their inflation preferences, with some theories reducing a respondent’s inflation preference by a percentage point.

Currently, there is a divide between the consumer’s inflation preference, as measured by survey respondents, and the Federal Reserve’s inflation rate. Afrouzi and colleagues believe the gap can be narrowed with effective communication of monetary policy to consumers and have shown that consumers can be receptive to having their inflation preference altered.