August 10, 2026, Filed Under: Working PaperInattentive Price Setting and Inflation Under Fiscal Policy Uncertainty EMPCT Working Paper Series No. 2026-0671 pages | PDF Download | PDF in Browser CitationPfäuti, Oliver and Edson Wu, “Inattentive Price Setting and Inflation Under Fiscal Policy Uncertainty”, August 2026 Oliver PfäutiThe University of Texas at Austin Edson WuFederal Reserve Board of Governors AbstractHow does fiscal policy shape firms’ price-setting behavior and aggregate inflation when firms are uncertain about fiscal policy and productivity shocks? We study this question in a general equilibrium model of rationally inattentive price-setting firms, where fiscal policy affects firms’ desired prices through revenue taxes. Public debt changes firms’ incentives to acquire information through two opposing forces: higher debt lowers the stakes of pricing decisions, but makes desired prices more sensitive to tax changes. This trade-off generates a U-shape in firms’ attention and inflation volatility with respect to public debt. Using micro data on price setting from euro-area countries, we show that the passthrough of expected cost changes to expected price changes increases in countries’ debt-to-GDP ratios, consistent with our model. In general equilibrium, an increase in the debt-to-GDP ratio from 100% to175% leads to an increase in inflation volatility of about 20% when attention is costly.
