Inflation. Inflation expectations play a vital role in regulating households’ consumption behaviour and consequent savings: RBI’s WPS

An increase in the households’ inflation expectations impacts their savings in debt-based instruments, like bank term deposits, negatively, according to a study by Reserve Bank of India (RBI) officials.

This indicates households reduced preference for bank term deposits when they expect rising inflation, Devendra Pratap Singh, Director; Aditya Mishra, Manager; and Purnima Shaw, Assistant Adviser, wrote in RBI Working Paper Series (WPS).

Hence, among other motives, inflation expectations of households should be tracked to assess households’ decisions on future savings in order to channelise investments.

“If households expect inflation to pick up in the medium term and they suspect low returns due to low real interest rates, it may be preferable for them to invest in commodities like precious metals, jewellery, etc., (investment in real estate, with a requirement of higher initial outlay, may not be as impacted in the short to medium term) than saving in term deposits,” the authors said.

Alternatively, instead of withdrawing the existing savings, households may not like to park their savings further in banks and might rather prefer to earn relatively higher returns by investing in other modes of investment which blocks precious capital in unproductive assets, resulting in undesirable outcomes like higher interest rates for producers, lower production, higher imports, etc.

“Inflation expectations play a vital role in regulating households’ consumption behaviour and the consequent savings.

“Accounting for the impact of per capita expenditure, inflation, interest rate and the recent withdrawal of Specified Bank Notes, increase in three months ahead and one year ahead inflation expectations result in slower growth in future per capita term deposits,” the authors said.

In other words, inflation expectations in India track households’ future term deposits in banks, keeping other variables constant.

When sentiments about future inflation are on the higher side, households change their savings portfolio with respect to bank deposits.

The authors noted that high inflation expectations are also likely to lead to higher wage demands by workers during wage negotiations and thus lead to the risk of a further future rise in inflation. On the other hand, in a scenario of high real interest rates, households would find it more gainful to save rather than spend on present consumption.

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