Price rigidities, input costs, and inflation expectations: understanding firms’ pricing decisions from micro data

Using a rich survey panel of Italian businesses, this paper provides new empirical evidence on the drivers of firms’ pricing decisions over the last six years. We document a set of interesting results. First, the share of firms adjusting their prices in each period co-moves with current inflation. Moreover, firms’ choices are consistent with a hybrid framework that lies between time- and state-dependent models of price setting. Second, firms’ pricing decisions respond to past pricing choices, changes in input costs and beliefs about future developments of their own prices, rather than expectations on aggregate inflation. Third, firms’ price changes are also connected to their observable characteristics: size class, sector of activity and exposure to foreign markets. Fourth, the heterogeneity in price changes depends strongly on the dispersion of beliefs concerning future price variations, while input prices only explain a limited part. Our results shed light on the presence of different channels in the formation of firms’ prices, pointing toward the need of considering them together to understand their pricing decisions and the dynamics of inflation.