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Price Setting Under Uncertainty About Inflation

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  • Diego Perez

    (Stanford)

  • Andres Drenik

    (Stanford)

Abstract

When setting prices firms use idiosyncratic information about the demand for their products as well as public information about the aggregate macroeconomic state. This paper provides an empirical assessment of the effects of the availability of public information about inflation on price setting. We exploit an event in which economic agents lost access to information about the inflation rate: starting in 2007 the Argentinean government began to misreport the national inflation rate. Our difference-in-difference analysis reveals that this policy led to an increase in the coefficient of variation of prices of 18% with respect to its mean. This effect is analyzed in the context of a general equilibrium model in which agents make use of publicly available information about the inflation rate to set prices. We quantify the model and use it to further explore the effects of higher uncertainty about inflation on the effectiveness of monetary policy and aggregate welfare. We find that monetary policy becomes more effective in a context of higher uncertainty about inflation and that not reporting accurate measures of the CPI entails significant welfare losses.

Suggested Citation

  • Diego Perez & Andres Drenik, 2015. "Price Setting Under Uncertainty About Inflation," 2015 Meeting Papers 1429, Society for Economic Dynamics.
  • Handle: RePEc:red:sed015:1429
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    References listed on IDEAS

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    1. Angeletos, George-Marios & La’O, Jennifer, 2009. "Incomplete information, higher-order beliefs and price inertia," Journal of Monetary Economics, Elsevier, vol. 56(S), pages 19-37.
    2. Card, David & Krueger, Alan B, 1994. "Minimum Wages and Employment: A Case Study of the Fast-Food Industry in New Jersey and Pennsylvania," American Economic Review, American Economic Association, vol. 84(4), pages 772-793, September.
    3. Olivier Coibion & Yuriy Gorodnichenko, 2012. "What Can Survey Forecasts Tell Us about Information Rigidities?," Journal of Political Economy, University of Chicago Press, vol. 120(1), pages 116-159.
    4. Hellwig, Christian & Venkateswaran, Venky, 2009. "Setting the right prices for the wrong reasons," Journal of Monetary Economics, Elsevier, vol. 56(S), pages 57-77.
    5. Joseph Vavra, 2014. "Inflation Dynamics and Time-Varying Volatility: New Evidence and an Ss Interpretation," The Quarterly Journal of Economics, Oxford University Press, vol. 129(1), pages 215-258.
    6. Cavallo, Alberto, 2013. "Online and official price indexes: Measuring Argentina's inflation," Journal of Monetary Economics, Elsevier, vol. 60(2), pages 152-165.
    7. Reinsdorf, Marshall, 1994. "New Evidence on the Relation between Inflation and Price Dispersion," American Economic Review, American Economic Association, vol. 84(3), pages 720-731, June.
    8. Julio Blanco & Isaac Baley, 2013. "Learning to Price," 2013 Meeting Papers 663, Society for Economic Dynamics.
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