Inflation Expectations Anchoring and the RBI's Household Survey

Inflation expectations are simply what people think prices will do in the future. If a family believes that milk, rent and school fees will be much costlier next year, it will behave differently today. Workers ask for bigger pay rises, shopkeepers raise prices in advance, and people buy early before prices go up. Because of this, what people expect about inflation can itself push actual inflation up.

When people's expectations stay steady near the central bank's target, even when prices jump for a short time, we say expectations are anchored. The RBI measures households' expectations through a regular survey called the Inflation Expectations Survey of Households (IESH).

Why do expectations matter so much?

Think of a cricket crowd. If one person stands up to see better, the people behind also stand, and soon the whole stand is on its feet. Nobody can see any better, but everyone is uncomfortable. Inflation can work the same way. If workers expect 8% inflation, they demand 8% higher wages. Firms then raise prices to cover higher wages.

Prices rise, and the original expectation comes true. This loop between wages and prices is called a wage-price spiral. A central bank's job is to stop that first person from standing up.

Where did the idea come from?

In 1958, the economist A.W. Phillips showed that, in the United Kingdom, years of low unemployment were years of fast wage growth. This trade-off became known as the Phillips curve. Many people read it as a menu: accept a bit more inflation and you get fewer jobless people. In 1967 Edmund Phelps, and in 1968 Milton Friedman (in his presidential address to the American Economic Association), argued that this was incomplete.

They said that once people start expecting higher inflation, the trade-off disappears and you are left with only higher inflation. This version is called the expectations-augmented Phillips curve. The high inflation of the 1970s in many rich countries seemed to prove them right. Since then, managing expectations has been central to monetary policy, and Phelps received the Nobel Prize in Economics in 2006 partly for this work.

How does anchoring work in practice?

The steps are simple:

1. The central bank announces a clear target (in India, 4% CPI inflation, with a 2%–6% band).
2. It acts on time whenever inflation threatens to move away from the target, even if this hurts in the short run.
3. People see that the central bank keeps its word. Over time they start to believe that inflation will return to target.
4. Then, if a bad monsoon or an oil price shock pushes prices up for a few months, people treat it as temporary. They do not rush to raise wages and prices, so the shock fades instead of spreading.

This belief is called credibility. A credible central bank needs smaller rate hikes to control inflation, because people's expectations do part of the work.

How does the RBI measure households' expectations?

The RBI runs the IESH to understand what ordinary urban families feel about prices.

• Since when: it has been conducted since September 2005, first every quarter. It is now bi-monthly (every two months), in step with the six MPC meetings a year.
• Coverage: about 6,000 urban households across 19 major cities, as of recent rounds. Respondents are picked to cover different areas of each city, with quotas so that men and women, different age groups and different categories of respondents (such as workers, self-employed people and homemakers) are all fairly represented.
• What it asks: three numbers: the inflation rate households feel right now (current perception), and what they expect three months ahead and one year ahead. It also asks whether they expect prices of food, non-food items, housing and services to rise faster, at the same speed, or slower.
• How results are shown: as the median (the middle answer when all answers are lined up from lowest to highest), so a few extreme answers do not distort the result.

Since 2025 the RBI has also published a bi-monthly Rural Consumer Confidence Survey, which asks rural and semi-urban households about their current perception of inflation and their one-year-ahead expectations, along with jobs and income.

Why are household numbers usually higher than actual inflation?

In most rounds, households' numbers are well above official CPI inflation. For example, the September 2025 round showed a median current perception of 7.4%, when official CPI inflation was far lower. There are clear reasons for this:

• People notice prices of things they buy often, such as vegetables, milk and fuel. These are also the items whose prices move the most.
• Each family's shopping basket is different from the CPI's average basket.
• Bad news sticks in memory more than good news. A ₹20 jump in tomatoes is remembered; a fall in phone tariffs is not.

So the RBI looks less at the exact level and more at the direction of change. If expectations rise sharply from one round to the next, that is a warning sign that inflation may be spreading in people's minds.

India's position

India adopted flexible inflation targeting in 2016 partly to anchor expectations. Before that, India had long spells of high inflation between 2009 and 2013, and household expectations were in double digits for a long time. After the framework started, both actual inflation and expectations came down for several years, which the RBI sees as a gain in credibility. The MPC's statements and minutes regularly refer to IESH results when explaining decisions.

Commonly confused concepts

• Inflation perception vs inflation expectation: perception is what people feel inflation is now; expectation is what they think it will be in three months or one year.
• IESH vs Survey of Professional Forecasters: the IESH asks ordinary households; the Survey of Professional Forecasters asks economists and experts in banks and research firms for their forecasts. Experts' forecasts usually stay much closer to official inflation.
• IESH vs Consumer Confidence Survey: the IESH focuses on prices. The Consumer Confidence Survey asks households about their general feeling on the economy, jobs, income and spending.
• Headline vs core vs trimmed mean: headline is total CPI inflation. Core removes food and fuel, whose prices jump around. A trimmed mean removes the items with the most extreme price changes at both ends and averages the rest. All three are actual price measures, unlike expectations, which are opinions.
• Anchored vs de-anchored expectations: anchored means people believe inflation will come back to target; de-anchored means people expect high inflation to continue, which makes it harder and costlier to control.

Issues, criticism and the way forward

• Survey limits: the IESH covers only urban households in 19 cities, while most Indians live in villages and small towns. The newer rural survey partly fills this gap.
• Upward bias: because households overstate inflation, some experts question how much weight the MPC should give to the level of these numbers.
• Food price shocks: in India food is a large part of family spending. Sharp vegetable or pulse price jumps move expectations quickly, even though interest rates cannot fix a supply shortage.
• Cost of acting late: if the central bank waits too long, expectations can de-anchor. Then larger and more painful rate hikes are needed later, which can hurt growth and jobs.
• Way forward: experts suggest clearer communication from the RBI, wider and more representative surveys, and quick supply-side action by the government on food prices, so that short shocks do not turn into long-lasting expectations.

Concepts to Know

• Median: the middle value when all answers are arranged in order. If five people say 4%, 5%, 6%, 9% and 20%, the median is 6%.
• Basis point: one-hundredth of a percentage point. 100 basis points = 1%.
• Wage-price spiral: a loop where higher prices lead to demands for higher wages, and higher wages lead firms to raise prices again.
• Credibility (of a central bank): how far people trust that the central bank will do what it says, especially to keep inflation near its target.
• Supply shock: a sudden drop in the supply of goods (for example, crops damaged by bad rain), which pushes prices up regardless of demand.
• Diffusion of inflation: how widely price rises spread across many items, rather than being limited to a few.