Americans see inflation cooling further over the next year, NY Fed survey shows

Consumers see inflation falling considerably over the next year to the lowest level since July 2021, according to a key Federal Reserve Bank of New York survey published Monday, a potentially reassuring sign for the U.S. central bank as it tries to cool surging prices. 

The median expectation is that the inflation rate will be up 5% one year from now, according to the New York Federal Reserve's Survey of Consumer Expectations. Americans are less certain about the prospect of inflation falling over the long term.

Three years from now, consumers see inflation hovering around 3%, unchanged from November. Over the next five years, Americans anticipate that prices will remain above the Fed's 2% goal, projecting the inflation rate will hover around 2.4% in 2028.

"Median inflation uncertainty—or the uncertainty expressed regarding future inflation outcomes—was unchanged at the short-term horizon and decreased at the medium-term horizon," the survey said.

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The decline stemmed from a big drop in expectations for the cost of food and gas, with Americans forecasting a decline of 0.7% over the next year for both categories. However, consumers are bracing for home prices to rise 0.3% to 1.3% this year. 

The report is based on a rotating panel of 1,300 households.

The survey plays a critical role in determining how Fed policymakers respond to the inflation crisis. That is because actual inflation depends, at least in part, on what consumers think it will be. It is sort of a self-fulfilling prophecy – if everyone expects prices to rise by 3% in the year, that signals to businesses that they can increase prices by at least 3%. Workers, in turn, will want a 3% pay raise to offset the rising costs.  

Chairman Jerome Powell has repeatedly warned that central bankers are on the alert for signs that inflation expectations are rising, a sign that high consumer prices could become entrenched in the economy. 

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"I think by the actions that we take, though, we help keep longer-term inflation expectations anchored and keep the public believing in 2% inflation by the things that we do, even in times when energy is part of the story of why inflation is high," Powell told reporters at the beginning of November.

Policymakers voted to approve seven straight rate hikes last year, lifting the federal funds rate to a range of 4.25% to 4.5% – the highest since 2007 – and indicated that more rate increases are coming in 2023. There is a growing expectation on Wall Street that the Fed will trigger an economic downturn as it raises interest rates at the fastest pace in three decades to catch up with runaway inflation. 

In a concerning development, the Monday survey showed that household spending expectations fell sharply in December to 5.9% from 6.9% the previous month. The decline was broad-based across age and income groups. Despite more Americans expecting they will slow their spending in 2023, perceptions about households' financial situation remained healthy. 

The percentage of households reporting a worse situation compared to a year ago declined in December. Similarly, year-ahead expectations about households' financial situations also improved last month.

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The new inflation expectation projections come just a few days before the release of new consumer price index data, which is expected to show further moderation in inflation: Economists surveyed by Refinitiv expect that inflation was flat in December on a monthly basis and rose 6.6% from the previous year.