The focus across the Federal Reserve System is curbing inflation, which just hit a 40-year high. Evidence of inflation’s effects on consumers is everywhere – in the media, in stores, at gas stations, and beyond. That’s made Americans increasingly aware of rising inflation, and according to a new study published by the Boston Fed, that can make it more difficult to rein it in.

Boston Fed senior economist and policy advisor Jenny Tang is coauthor of the paper called “Inflation Levels and (In)attention,” which looks at the ways inflation can be affected by how much attention people pay to it.

In the latest episode of Six Hundred Atlantic, Tang speaks about how different levels of attention can influence everything from what kind of mortgage a person chooses to whether they think it’s a good time to go appliance shopping.

JESSICA GAGNE:

Hello, and thank you for joining us on this episode of Six Hundred Atlantic. I'm your host, Jessica Gagne, here with another interview aimed at highlighting the work done at the Boston Fed in service of the New England region. And today's topic is inflation, and that's a topic that's been at the center of many conversations as of late. And that's specifically what we're going to be focusing on in this interview. It's talking about "talking about" inflation. Jenny Tang is a senior economist and policy advisor at the Boston Fed, and she is the co-author of a new study published in January called "Inflation Levels and (In)Attention." And the study looks at how much us consumers pay attention to inflation and the effects that can have on inflation itself. So, welcome, Jenny. Thank you for joining us today.

JENNY TANG:

Thank you so much for having me on.

JESSICA GAGNE:

Sure. So, inflation hit a 40-year high, and reminders of it are everywhere, from reading and hearing about it on the news, to price hikes you see when you're going shopping. Why is research into how much consumers pay attention to inflation significant, especially where we stand right now?

JENNY TANG:

So, we see consumer attention levels as really a piece of the puzzle in understanding how consumers form perceptions of current inflation and also expectations of future inflation more generally. So, when consumers pay a lot of attention, their beliefs are more influenced by the developments in the economy, and so it's important to understand what the drivers of this attention are.

Now, you can ask, "Why are their beliefs important at all?" Well, some past research, including some by my colleagues here in the Bank's Research Department, has shown that these beliefs about inflation can drive important economic decisions. For example, it's been found that consumers who expect higher inflation, they tend to spend more on durable goods. So, things like appliances and things like that. On the financial side, consumers who expect higher inflation have also been shown to more frequently choose to take fixed-rate mortgages, as opposed to floating-rate loans. So, these are pretty big economic decisions that are influenced by consumers' beliefs about inflation.

And so putting this all together, it means that research into how much consumers pay attention to inflation – and, in particular, something that we look at is how this intention varies with the level of inflation itself – this can be really a key piece in understanding how high inflation, like we're experiencing now, will play out through changes in spending patterns or households' financial decisions.

JESSICA GAGNE:

Interesting. I feel like attention seems like something that might be kind of difficult to quantify. So, how do you go about measuring something like paying attention to inflation? And how did the method that you used in this study differ from previous methods that have been used?

JENNY TANG:

So, I agree it is, it can be difficult to measure. And so prior research that tries to measure attention have mostly all focused on what I would call "indirect measures." One drawback of these types of measures is that they're coming from forecasts, and so they can confound inattention with other factors. So, for example, you might get a consumer who's paying a lot of attention, knows perfectly what current inflation is, but, you know, they didn't go get an economics degree in college. They don't know how to translate the current inflation number that they know into a forecast of future inflation. And so studies that only look at forecasts, they can't really tell this apart. They can't tell apart just the inability to form a forecast from inattention. And so that can be problematic.

And so to avoid this issue, we instead found a way to look more at consumers' beliefs about current inflation, to just kind of take this forecasting piece out of the equation. Unfortunately, in the U.S. there aren't any long-running surveys, national surveys, that ask about these beliefs directly. And so we had to get a little bit creative, and so what we did instead is that we found that because of the way the questions are asked in this commonly used survey, the University of Michigan Survey of Consumers, there ends up being a subgroup of respondents who essentially indirectly reveal their beliefs about current inflation.

And so how does this happen? Basically, this survey starts out by asking people whether they think prices will go up, go down, or stay the same. And as it turns out, some of the people who say, "Stay the same," they actually mean not that prices will stay the same, but they think that the future inflation rate will be the same as the current rate. And so then, for these people, what they say about the future inflation rate reveals what they think about the current inflation rate. Another way that we study attention is by looking at the people who don't say they don't know, they actually give a number. And we look at how wrong they are – so, the mistakes that they're making about the current inflation level today. And we compare those to mistakes they are making in the past – essentially, how wrong they were last time when they were asked about future inflation, how much those mistakes persist and carry over into mistakes they continue to make today.

So, if you continue to kind of make the same mistake about where you think inflation is, you said it was going to be high yesterday, and it's actually not that high today, and you still think it's going to be high, then that shows that you're not really paying attention, you're not correcting yourself.

JESSICA GAGNE:

Let's dive in there, too, because your study does say that Americans really don't think about inflation at all that much when it's low, or they sort of give that like, "I don't know," sort of answer, too. But that lack of interest can actually be stabilizing for the economy. So, can you elaborate a little on that?

JENNY TANG:

Yeah. Yeah. So, this is one of the main results of the paper. Not just that we're finding that people can be inattentive, but really that it's happening more frequently when inflation levels are low. And we think that this is fairly intuitive. When prices are increasing slowly, this means that people are only spending a little bit more each time they go to the grocery store or they go to the gas station. And so this is just less noticeable than when they see their bills are getting, going up by larger amounts each time, or when they often find themselves spending more than they had planned to. They go to the cashier, and the total is more cash than they had brought with them or something like that. That becomes a more noticeable event to them, and that tends to happen more often when inflation is high.

And so what this kind of inattention when inflation is low means is that, let's say you start out with very low inflation, and it does move up a little bit from this low level. People weren't paying attention. So, this change kind of goes relatively unnoticed. And so as a result, people aren't really changing their spending behaviors very much. They're not going to knock on their boss's door to ask for a raise to cover the slightly higher cost of living. And so, in this way, any changes in inflation when it's already starting out low may have a relatively smaller overall effect on the economy, compared to times when people are more aware of these changes.

JESSICA GAGNE:

Right. Like now. So, the more inflation is increasing, your study also says, the more people are paying attention to it. And that can actually have an effect on inflation, as well. And it's sort of like a spiral. So, that opposite way, can you talk a little bit about that, too?

JENNY TANG:

Yeah, absolutely. So, kind of the flip side of the logic that I just gave is that when inflation reaches high levels, we find that people are much more aware of inflation. And this, in turn, then means that these higher levels of inflation are more likely to get factored into consumers' decisions.
So, as I mentioned earlier, one example is that it's been found that people who expect higher inflation tend to spend more on durable goods. And then this higher demand can feed back into even higher prices. There are more people trying to buy washing machines and refrigerators, and so firms and stores are going to raise their prices on that, which is then higher inflation, right? Or at least a prolonged period of high inflation.
Something else that might happen is that inflation might become a larger factor in people's decisions about whether to accept a job offer. Or it becomes a factor in people's wage negotiations. And so if firms end up needing to pay workers more to cover their higher cost of living, these wage increases may then get passed along in the form of even higher prices. And so this is basically the story of the wage-price spiral that occurred back in the 1970s.

JESSICA GAGNE:

And, I mean, we are in quite the times, too. We just came off of a pandemic. And to go back to the data that you talked about when you were actually collecting this research, I know you mentioned that specific study and, for listeners' knowledge, the questions came from a large range of timeframe. So, 1979 to 2021, that's when people were answering these questions. And you noted that after the pandemic began, long-term consumer inflation expectations experienced the fastest 21-month increase that's been seen since that survey was introduced more than 40 years ago. So, I mean, that sort of ties into what you're saying. Why is that sort of so significant to see that huge spike in the last 21 months?

JENNY TANG:

So, in the recent couple of years, we've had this huge surge in inflation, mainly because of pandemic effects. And at the same time, lo and behold, we see that long-term consumer inflation expectations also went up very rapidly. And these are long-term expectations. So, they're being asked what you think inflation will be over the next five or 10 years. So, it's a pretty long period of time. And so these expectations tend to be fairly stable. And so it was notable to see them come up so quickly in the past 21 months.

And so I think the significance of this is that, well, first of all, now it's a time when I think o ur hypothesis is really playing out in the real world. You see inflation at very high levels today, and then suddenly people are paying attention to that fact a lot and changing their forecast for future inflation quite a lot. And so because of the channels I highlighted earlier of how these >expectations can then affect people's decision-making, this means that this rapid increase in inflation expectations can quickly translate into rapid shifts in other areas of the macroeconomy.

JESSICA GAGNE:

So, do you think the extremely high level of attention on inflation right now is exerting additional pressure on the economy as it stands?

JENNY TANG:

So, I think we're really at an interesting time for the economy right now. There have certainly been a lot of questions asked about whether we might enter into a wage-price spiral again, like we saw in the 70s, which could be very damaging. You could potentially see inflation just accelerating quickly. And a high level of attention to inflation can certainly make that possibility more likely.

But, luckily, there's not much evidence that this has happened so far or is starting to happen, which is a good thing, I would say. So, even though long-term inflation expectations had come up very quickly over the past couple of years, it seems that they've now stabilized in the past few months. And so I think one reason why this might be the case is that people now have a good deal of faith in the Federal Reserve's ability to bring inflation back down in a reasonable amount of time. And so I think the Fed's credibility in the situation that's been built up over the past few decades, it's certainly helping to keep things under control. And so this is something that is going to be very important for us to follow through on, in terms of actually bringing inflation down.

JESSICA GAGNE:

Great. Well, Jenny Tang, thank you so much for taking the time to chat and joining us on the podcast.

JENNY TANG:

Thank you so much for having me on.

JESSICA GAGNE:

As always, you can find more information on everything discussed today on our website. Visit boston-fed-dot-org-slash-six-hundred-atlantic, where you can check out other interviews, as well as our series pieces, which are focused on issues with the nation's child care system and geographic economic disparities across the United States. And while you're there, subscribe to our email list to stay informed of upcoming episodes. And don't forget to rate, review, share, and subscribe on your favorite podcast app.

JESSICA GAGNE:

I'm Jessica Gagne signing off on this episode of Six Hundred Atlantic. Thanks for listening.