Nonlinear Phillips Curve and Inflation Risk

Work in Progress
How does a nonlinear Phillips curve affect inflation risk? Using a strategic surveys approach and micro price data, we establish that the price setting behaviour of firms depends nonlinearly on the inflation environment. In a high inflation environment, the share of firms that adjust their prices in response to expected inflation increases. We rationalize these dynamics using a quantitative macroeconomic model with a nonlinear Phillips curve. The model features a tractable heterogeneous firm setup with endogenous varying degrees of price flexibility. Solving the model with a machine learning approach, we demonstrate that, in this setting, contractionary supply shocks lead to higher inflation, which provides a new motive for the monetary policy to act preemptively.