Households' Medium- to Long-Term Inflation Expectations Formation: The Role of Past Experience and Inflation Regimes

This paper presents a quantitative analysis of how households' medium- to long-term inflation expectations are influenced by individuals' "past inflation experience" and "inflation regime - inflation trend at each point in time," using microdata from the Bank of Japan's Opinion Survey on the General Public's Views and Behavior. The results reveal that households who have experienced averagely lower inflation rates over individuals' lifetime tend to form statistically significantly lower inflation expectations. This finding suggests that the "lower experienced inflation rates," particularly among younger generations who have spent most of their lives in a deflationary environment, may have contributed to prolonged low inflation expectations in Japan. On the other hand, the analysis also indicates that the relationship between inflation expectations and past inflation experience is not always constant. During high-volatility inflation regimes (i.e., periods of significant price fluctuations), the relationship with past inflation experience weakens, while the relationship with inflation perceived at each point in time strengthens. Through this non-linear mechanism, the recent surge in actual inflation may have pushed up inflation expectations in Japan. Moreover, the recent increase in inflation has contributed to the rapid increase in experienced inflation rates among younger generations. This implies that the previous situation, where lower experienced inflation rates among these generations had exerted downward pressure on Japan's inflation expectations, is undergoing a shift. It is important to closely monitor how this increase in experienced inflation rates will influence future trends in long-term inflation expectations.