What drives companies’ elevated selling price expectations? 

An exceptionally high number of Eurozone companies plan to raise selling prices. It is unlikely that, at this stage, unit labour cost growth would already be a key driver. Rising input costs and strong demand are playing a crucial role, whereby well-filled order books make it easier for companies to increase their prices. Selling price expectations of euro area companies are much higher than what would be expected based on their historical relationship with input prices and order book levels. It seems that when more companies are raising prices, others will be inclined to do the same. This broad-based nature of the increase of inflation could slow down the reaction of inflation to slower demand growth.

The latest business survey of the European Commission shows that the net balance of industrial companies planning to raise their selling prices continues to increase and, at 58, is at the highest level ever¹. Understanding the drivers behind this development is important for the assessment of the outlook for producer and consumer prices. Companies will be inclined to charge higher prices when wage costs are growing in excess of productivity gains, when they are confronted with rising input costs (commodities, intermediate inputs), or strong demand, which increases their pricing power. It is unlikely that at this stage and at the aggregate level, the first factor would already be an important driver behind the intentions to raise prices. The annual growth of negotiated wages was 1.6% in the fourth quarter of 2021², although, considering the labour market bottlenecks in various sectors and anecdotal evidence³, one would expect wage growth to pick up going forward. Rising input costs are a key driver. The purchasing managers’ indices show that a vast majority of survey participants in the manufacturing sector continue to face higher input prices, month after month. Finally, strong demand, as reflected in well-filled order books, makes it easier for companies to increase their prices.⁴

Chart 1 shows the close correlation between the assessment of order book levels in industry and the selling prices expectations of companies. Recently, both series have reached record-high levels. As shown in the table, a regression analysis reveals that input prices and order book levels are highly significant in explaining selling price expectations in industry.

However, the quality of the statistical fit has declined as of late, as reflected in exceptionally large and positive regression residuals (chart 2): the observed selling price expectations are significantly higher than their estimated value based on the historical relationship. Given the current tensions on input prices and the level of order books, even more companies than normal plan to raise their selling prices. A possible explanation is that an exceptionally large number of companies are very confident about their pricing power. However, it could also reflect that inflation has become very broad-based. When more companies are raising prices, others will be inclined to do the same.

An interesting indicator in this respect is the ‘persistent and common component of inflation’ (PCCI)5 . This measure of underlying inflation that is calculated by the ECB shows that in recent months, the pick-up in inflation has indeed become very widespread (chart 3). Moreover, its recent evolution is highly correlated with the regression residuals discussed before, which suggests that the exceptionally high selling price expectations are related to the broad-based increase of inflation. This may lead to a certain inertia in price developments and hence a delayed reaction of inflation when demand growth eventually slows down.