Working Paper: NBER ID: w9320
Authors: Julio J. Rotemberg
Abstract: While much evidence suggests tha price rigidity is due to a concern with the reaction of customers, price increases do not seem to be typically associated with drastic reduction in purchases. To explain this apparent inconsistency, this paper develops a model where consumers care about the fairness of prices and react negatively only when they become convinced that prices are unfair. This leads to price rigidity, though the implications of the model are not identical to those of existing models of costly price adjustment. In particular, the frequency of price adjustment ought to depend on economy-wide variables observed by consumers. As I show, this has implications for the effects of monetary policy. It can, in particular, explain why inflation does not fall immediately after a monetary tightening.
Keywords: Price Rigidity; Consumer Behavior; Monetary Policy
JEL Codes: E3; E4; L2
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| perceived fairness (D63) | consumer behavior (D19) |
| price increases (E30) | perceived fairness (D63) |
| perceived fairness (D63) | quantity demanded (E41) |
| price increases (E30) | quantity demanded (E41) |
| macroeconomic conditions (E66) | frequency of price adjustments (E30) |
| perceived fairness increases likelihood of price acceptance (D41) | price rigidity (D41) |