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Inflation Factors

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Abstract

This paper develops an econometric framework for identifying latent factors that provide real time estimates of supply and demand conditions shaping goods- and services-related price pressures in the U.S. economy. The factors are estimated using category-specific personal consumption expenditures (PCE) data on prices and quantities, using a sign-restricted dynamic factor model that imposes theoretical predictions of the effects of fluctuations in supply and demand on prices and associated quantities through factor loadings. The resulting estimates are used to decompose total PCE inflation into contributions from common factors—goods demand, goods supply, services demand, services supply, and inflation expectations—and category specific idiosyncratic components. Validation exercises demonstrate that the estimated factors provide an informative and coherent narrative of inflation dynamics over time and can be effectively used for forecasting and policy analysis.

Suggested Citation

  • Danilo Leiva-León & Viacheslav Sheremirov & Jenny Tang & Egon Zakrajšek, 2025. "Inflation Factors," Working Papers 25-5, Federal Reserve Bank of Boston.
    • Handle: RePEc:fip:fedbwp:101428
    DOI: 10.29412/res.wp.2025.05
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    1. Viacheslav Sheremirov, 2022. "Are the Demand and Supply Channels of Inflation Persistent? Evidence from a Novel Decomposition of PCE Inflation," Current Policy Perspectives 94983, Federal Reserve Bank of Boston.
    2. James H. Stock & Mark W. Watson, 2016. "Core Inflation and Trend Inflation," The Review of Economics and Statistics, MIT Press, vol. 98(4), pages 770-784, October.
    3. Refet S Gürkaynak & Brian Sack & Eric Swanson, 2005. "Do Actions Speak Louder Than Words? The Response of Asset Prices to Monetary Policy Actions and Statements," International Journal of Central Banking, International Journal of Central Banking, vol. 1(1), May.
    4. Chahad, Mohammed & Hofmann-Drahonsky, Anna-Camilla & Page, Adrian & Tirpák, Marcel & Meunier, Baptiste, 2022. "What explains recent errors in the inflation projections of Eurosystem and ECB staff?," Economic Bulletin Boxes, European Central Bank, vol. 3.
    5. Mary Amiti & Sebastian Heise & Fatih Karahan & Ayşegül Şahin, 2024. "Inflation Strikes Back: The Role of Import Competition and the Labor Market," NBER Macroeconomics Annual, University of Chicago Press, vol. 38(1), pages 71-131.
    6. Chang-Jin Kim & Charles R. Nelson, 1999. "State-Space Models with Regime Switching: Classical and Gibbs-Sampling Approaches with Applications," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262112388, December.
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    Keywords

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    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation

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