Left-Digit Bias in Household Inflation Expectations

Abstract

This paper theoretically defines and empirically tests left-digit bias in household inflation expectations. Using crosscountry data and a regression discontinuity design, we find that inflation expectations jump discontinuously when inflation crosses round-number thresholds, especially when inflation is rising. Media sensationalism is the primary channel through which these effects operate, as confirmed by instrumental variable estimates and a randomized controlled experiment. Embedding left-digit-biased expectations into a New Keynesian model reveals important macroeconomic and policy implications: weaker initial responses to shocks, prolonged inflationary periods, and the need for more persistent monetary policy.

Keywords: expectations formation, media, monetary policy, New Keynesian model, round-number thresholds

JEL Classification: C83