American businesses build expectations about future expenses into their prices almost as heavily as they do current costs, according to a new Federal Reserve Bank of Boston working paper published in 2026. The study found that firms pass through approximately 68 percent of realized cost changes and about 43 percent of expected future cost changes when they reset prices. The findings provide the first direct micro-level confirmation that companies actually price the way economic models have long assumed they do—by looking forward as well as backward.
The study, which surveyed U.S. small and medium-sized businesses about their pricing behavior, revealed sharp differences across firm types. Frequent price adjusters showed nearly complete pass-through of current costs but minimal sensitivity to future expenses, while infrequent adjusters placed substantially greater weight on expected costs and exhibited muted responses to realized changes. Goods-producing firms demonstrated near-complete contemporaneous pass-through with limited forward-looking behavior, whereas service-sector companies proved significantly more forward-looking, incorporating both realized and expected cost changes into pricing decisions—a pattern the report links to the relatively greater share of costs devoted to labor by services firms. When firms faced higher uncertainty about future costs, they responded more strongly to expected future expenses, systematically tilting their pricing behavior toward forward-looking considerations.
The authors write that these patterns "are difficult to reconcile with models in which the timing of firms' price adjustments is exogenous," but instead "arise naturally in frameworks such as menu-cost models." The report concludes that inflation operates through dual channels: cost shocks affect prices not only through realized costs but also through expected future costs that firms incorporate immediately at the time of price adjustment. This means inflation can respond to changes in the economy that may raise firms' costs in the future even before those increases materialize.
The dual-channel mechanism helps explain why inflation sometimes moves before actual cost pressures hit the economy. When businesses anticipate higher expenses down the road—whether from trade policy, wage pressures, or supply disruptions—they bake those expectations into prices as soon as they adjust, even if current costs haven't budged yet. The report used perceived tariff exposure from 2025 trade policies as an identification strategy to isolate the causal effects of realized versus expected costs on pricing decisions, exploiting trade-policy shocks to establish causation rather than mere correlation.
For policymakers, the findings carry a direct implication: policy communication serves as a stabilization tool in its own right. By shaping both the expected path and the uncertainty surrounding future costs through clear forward guidance and credible commitments, central banks can influence price-setting behavior and inflation dynamics in real time. The report emphasizes that expectation management becomes particularly crucial during periods of heightened economic uncertainty, when firms weight future costs more heavily in their pricing decisions.