Firm Inflation Expectations, Uncertainty and Beliefs

In this paper, we examine the dynamics between inflation uncertainty, beliefs and inflation expectations of firms. Inflation uncertainty and beliefs influence a firm’s perception of the inflation levels, thereby impacting its expected inflation. Using novel survey data on firm inflation expectations, we examine the extent to which crises influence the relationship between inflation uncertainty and inflation expectations. We find that the effect of crisis-led inflation uncertainty on inflation expectation is asymmetric. The COVID-19 pandemic increased the impact of high inflation uncertainty on inflation expectations. On the other hand, the Russia-Ukraine war reduced inflation expectations. The war effect may be attributed to geopolitical factors that helped India procure crude oil from Russia on favourable terms. Additionally, we find that the disagreement in expected inflation across firms seems to have increased in the period post-pandemic. Further, this paper analyses whether firms’ beliefs about their own performance influence inflation expectations. Performance can impact the perception of cost structure, thereby, inflation expectations. The findings suggest that firms’ beliefs about their performance are negatively associated with inflation expectations.