Menu costs and information rigidity: Evidence from the consumption tax hike in Japan

Pre-announced consumption tax changes can provide an opportunity for firms to reset their prices, which potentially leads to an economic stimulus. To test this argument, I examine firms’ price-setting behavior in response to Japan’s consumption tax hike in 2014. I find that prices became less sticky after the tax hike, suggesting that firms paid menu costs when passing through the tax hike to their prices. Nonetheless, I find that more than half of prices remained constant on a tax-excluded basis after the tax hike. This finding suggests that another factor prevented firms from adjusting their prices, though they paid menu costs.