How well do U.S. consumers predict the direction of change in interest rates?
The Michigan survey asks U.S. consumers about their 1-year expected directional change in interest rates. For 1978-1983 when interest rates are volatile, we find a strong association between the actual and predicted changes, with no asymmetry (the proportions of incorrectly predicted upward and downward moves are statistically the same.) For 1984-2005 when interest rates are relatively stable, we find asymmetry (consumers do not accurately predict the downward moves in interest rates.) We conclude that consumer borrowing based on such expectations can undermine monetary policy effectiveness, depending both on the directional change in policy and interest rate volatility.
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