Question

Why are central banks so concerned with inflation expectations?

Short answer

Central banks are worried with inflation expectations because they influence the purchasing behavior of businesses and individuals.

Step-by-step solution

Step 1. Define inflation.

In a market, inflation is defined as a broad, gradual rise in the prices of goods and services. When the general price level rises, each unit of money purchases fewer products and services, resulting in a loss of purchasing power.

Step 2. Why are central banks worried about inflation expectations?

Central banks are concerned with inflation expectations because they influence the consumption habits of businesses and individuals, which affects the stability of the economy.

When inflation expectations rise, the short-run aggregate supply curve shifts upward, resulting in higher short-run actual inflation on top of any inflationary effects.