The (Q,S,s) pricing rule: a quantitative analysis

Kenneth Burdett, Guido Menzio

    Research output: Contribution to journalArticlepeer-review

    Abstract

    Are nominal prices sticky because menu costs prevent sellers from continuously adjusting their prices to keep up with inflation or because search frictions make sellers indifferent to any real price over some non-degenerate interval? The paper answers the question by developing and calibrating a model in which both search frictions and menu costs may generate price stickiness and sellers are subject to idiosyncratic shocks. The equilibrium of the calibrated model is such that sellers follow a (Q,S,s) pricing rule: each seller lets inflation erode the effective real value of the nominal prices until it reaches some point s and then pays the menu cost and sets a new nominal price with an effective real value drawn from a distribution with support [S, Q], with s < S < Q. Idiosyncratic shocks short-circuit the repricing cycle and may lead to negative price changes. The calibrated model reproduces closely the properties of the empirical price and price-change distributions. The calibrated model implies that search frictions are the main source of nominal price stickiness.

    Original languageEnglish (US)
    Pages (from-to)784-797
    Number of pages14
    JournalResearch in Economics
    Volume71
    Issue number4
    DOIs
    StatePublished - Dec 2017

    Keywords

    • Menu costs
    • Search frictions
    • Sticky prices

    ASJC Scopus subject areas

    • Economics and Econometrics

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