How Food Prices Shape Inflation Expectations and the Monetary Policy Response

Food prices are salient for households’ inflation perceptions and expectations at both the micro and macro levels. UK survey data indicate over 60% of households report food prices as very important for perceived inflation. These households exhibit a stronger correlation between perceived and expected inflation, reflecting backward-looking expectations. An SVAR with aggregate data shows food-price shocks generate larger and more persistent movements in expectations than “representative” inflation shocks. Finally, embedding behavioural expectations in a New Keynesian model, we find that, following a food-price shock, welfare losses are mitigated when monetary policy responds to households’ inflation expectations, even if they overreact.