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Estimating Strategic Complementarity in a State-Dependent Pricing Model

  • Marco Bonomo
  • Arnildo da Silva Correa
  • Marcelo Cunha Medeiros

The macroeconomic effects of shocks in models of nominal rigidity depend crucially on the degree of strategic complementarity among price setters. However, the empirical evidence on its magnitude is indirect and ambiguous: the one based on macroeconomic data suggest strong strategic complementarities in price-setting, which seems to be contradicted by some recent studies based on micro data. In this paper we estimate directly the degree of strategic complementarity based on individual price data underlying the CPI-FGV from Brazil during the 1996-2006 period, benefiting from large amount of macroeconomic variation in Brazilian sample. Our identification strategy is to infer the degree of strategic complementarity from the relation between the frictionless optimal price and its macroeconomic determinants. We assume that firms follow an asymmetric Ss pricing rule, which allows us to relate the price discrepancy (and the conditional probability of adjustment) to the change in the frictionless optimal price since the last adjustment date. As a consequence, assumptions for non-observable shocks lead to a relation between the probability of adjustments and the conditional mean changes in the frictionless optimal price since the last adjustment. This relation allows us to directly estimate the degree of strategic complementarity from the occurrence of price adjustments. The results, which are based on individual price changes and not on macro effects, indicate a substantial degree of strategic complementarity, contributing to reconcile micro and macro based evidence

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Paper provided by Central Bank of Brazil, Research Department in its series Working Papers Series with number 341.

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Date of creation: Dec 2013
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Handle: RePEc:bcb:wpaper:341
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