A Federal Reserve study explores how U.S. firms form beliefs about their marginal costs and the implications for inflation. Using survey data, researchers found firms’ cost forecasts are largely disconnected from CPI expectations. These forecasts systematically overreact to current and past costs but underreact to aggregate shocks until costs change. The study suggests that under realistic cost beliefs, the New Keynesian Phillips curve is steeper and less forward-looking. Supply shocks are more inflationary as they quickly impact costs, while demand shocks are less inflationary due to firms’ failure to anticipate future wage pressures. Forward guidance weakens at long horizons but strengthens in the near term. The research highlights how firms’ behavioral patterns influence inflation dynamics and monetary policy effectiveness.
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