N°24-20: Household Belief Formation in Uncertain Times

The impact of uncertainty on belief formation depends crucially on the source of uncertainty. We document this by investigating the impact of heightened uncertainty in the post-pandemic economy on household inflation belief formation. Utilizing data from the Survey of Consumer Expectations, we document a marked decline in belief rigidity at the pandemic's onset, indicating an increased receptiveness of households to new information, and an increase in belief rigidity post-Covid19 likely due to greater uncertainty around new information. Through the lens of a Bayesian belief updating model, we pinpoint three contributing causes: first, lockdown and stay-at-home policies significantly reduced the marginal cost of gathering information; second, increased volatility in economic fundamentals rendered existing information obsolete, thus prompting households to increase relative attention to new information during the pandemic; third, uncertain new information led households to stop updating in the later part of the sample. We document strong support for the model's implications in household expectations data. Our findings not only contribute to the understanding of belief formation mechanisms but also shed light on post-pandemic inflation dynamics, including possible alterations to the slope of the Phillips Curve.