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Rigid Pricing and Rationally Inattentive Consumer

  • Filip Matejka

This paper proposes a mechanism leading to rigid pricing as an optimal strategy. It applies a framework of rational inattention to study the pricing strategies of a monopolistic seller facing a consumer with limited information capacity. The consumer needs to process information about prices, while the seller is perfectly attentive. It turns out that the seller chooses to price discretely even for a continuous range of unit input costs, i.e. charges a finite set of different prices only. The price usually stays constant when unit input cost changes only a little. The seller does so to provide the consumer with easily observable prices and thus stimulate her to consume more. In the model's dynamic version, this mechanism implies that prices respond to cost shocks with a delay.

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File URL: http://www.cerge-ei.cz/pdf/wp/Wp409.pdf
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Paper provided by The Center for Economic Research and Graduate Education - Economic Institute, Prague in its series CERGE-EI Working Papers with number wp409.

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Date of creation: Apr 2010
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Handle: RePEc:cer:papers:wp409
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  1. Maćkowiak, Bartosz & Wiederholt, Mirko, 2009. "Optimal sticky prices under rational inattention," Working Paper Series 1009, European Central Bank.
  2. Sergio Rebelo & Nir Jaimovich & Martin Eichenbaum, 2010. "Reference Prices and Nominal Rigidities," 2010 Meeting Papers 1049, Society for Economic Dynamics.
  3. Reis, Ricardo, 2005. "Inattentive Producers," CEPR Discussion Papers 5393, C.E.P.R. Discussion Papers.
  4. N. Gregory Mankiw & Ricardo Reis, 2002. "Sticky Information Versus Sticky Prices: A Proposal To Replace The New Keynesian Phillips Curve," The Quarterly Journal of Economics, MIT Press, vol. 117(4), pages 1295-1328, November.
  5. Alan S. Blinder, 1991. "Why are Prices Sticky? Preliminary Results from an Interview Study," NBER Working Papers 3646, National Bureau of Economic Research, Inc.
  6. Sims, Christopher A., 2003. "Implications of rational inattention," Journal of Monetary Economics, Elsevier, vol. 50(3), pages 665-690, April.
  7. Sims, Christopher A., 2005. "Rational inattention: a research agenda," Discussion Paper Series 1: Economic Studies 2005,34, Deutsche Bundesbank, Research Centre.
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