Actual and perceived inflation

The concept of inflation perceived by consumers came in the recent debate on inflation since it may affect consumer behaviour even if the perception was completely wrong. A misperception of inflation occurs particularly when households tend to label incorrectly inflation what really is a reduction in their disposable income, as in declining or stagnant economies and during public budget consolidation processes. Also a cash changeover may alter the perception of price changes. Nevertheless, even in a perfect perception framework, each consumer evaluates the inflation rate taking into account only his own consumption basket and the dynamics of the particular prices he pays. Hence, perceived inflation may differ systematically from the official one calculated by the statistical agencies, that necessarily make use of a common basket of consumption and the average market price of each product. The official inflation rate may be either beyond or below the average individual inflation rate in accordance with the sign of the covariance between individual budget shares and the corresponding price changes. Since economic theory suggests that the latter sign is positive under price discrimination, inflation faced by consumers is often higher than the official one. As far as the perceived inflation is strictly related to the cost of living, an aggregation fallacy may bias downward the estimation of official consumer price indices. At variance, just under price discrimination, firms tend to perceive an inflation rate very close to the official one, or even smaller. The arguments above provide a number of testable consequences.Aggregation fallacy; Inflation measurement; Perceived inflation; Price discrimination