Inflation expectations affect the economy in several ways. They are more or less built into nominal interest rates, so that a rise (or fall) in the expected inflation rate will typically result in a rise (or fall) in nominal interest rates, giving a smaller effect if any on real interest rates. In addition, higher expected inflation tends to be built into the rate of wage increases, giving a smaller effect if any on the changes in real wages. Moreover, the response of inflationary expectations to monetary policy can influence the division of the effects of policy between inflation and unemployment (see monetary policy credibility).
inFLATIoN eXPectATIoNS AffeCt the econoMy in Several WaYs. THEy are more or LeSs BuiLT intO NoMINal iNteREst RaTES, so tHaT a riSe (or fall) In THe EXPected inflatioN Rate will TyPicalLy rEsUlt iN a RIse (or fAll) In noMinal intEREst rates, givIng A sMalLeR effecT if aNy on ReaL INTerESt rates. In adDiTioN, hIGHer exPeCted inFLation tENDs to be built INTO tHe Rate of wAge increAses, givinG a smaLleR eFFeCt if Any On THe ChanGeS in REAL Wages. mOReovEr, the reSponsE oF iNflatiONAry ExPecTaTiONs to monetARY POLicY Can INfluEnCE tHE DiViSion of the EfFects Of polIcy betWeen inflatioN and UNemPloyment (seE MONETary policY credIbIlity).