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The Role of Consumer's Risk Aversion on Price Rigidity

  • Alves, Sergio A Lago

    (Central Bank of Brazil)

  • Bugarin, Mirta N S

    (University of Brasilia)

This paper aims at contributing to the research agenda on the sources of price stickiness, showing that the adoption of nominal price rigidity may be an optimal firms' reaction to the consumers' behavior, even if firms have no adjustment costs. With regular broadly accepted assumptions on economic agents behavior, we show that firms' competition can lead to the adoption of sticky prices as an (sub-game perfect) equilibrium strategy. We introduce the concept of a consumption centers model economy in which there are several complete markets. Moreover, we weaken some traditional assumptions used in standard monetary policy models, by assuming that households have imperfect information about the inefficient time-varying cost shocks faced by the firms, e.g. the ones regarding to inefficient equilibrium output levels under flexible prices. Moreover, the timing of events are assumed in such a way that, at every period, consumers have access to the actual prices prevailing in the market only after choosing a particular consumption center. Since such choices under uncertainty may decrease the expected utilities of risk averse consumers, competitive firms adopt some degree of price stickiness in order to minimize the price uncertainty and "attract more customers"

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Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2006 with number 128.

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Date of creation: 04 Jul 2006
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Handle: RePEc:sce:scecfa:128
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  1. Bonomo, M. & Garcia, R., 1997. "The Macroeconomic Effects of Infrequent Information With Adjustment Costs," Cahiers de recherche 9716, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
  2. Debreu,Gerard Introduction by-Name:Hildenbrand,Werner, 1986. "Mathematical Economics," Cambridge Books, Cambridge University Press, number 9780521335614.
  3. Almeida Neto, Heitor Vieira de & Bonomo, Marco Antônio Cesar, 1999. "Optimal State-Dependent Rules, Credibility, and Inflation Inertia," Economics Working Papers (Ensaios Economicos da EPGE) 349, FGV/EPGE Escola Brasileira de Economia e Finanças, Getulio Vargas Foundation (Brazil).
  4. Marc P. Giannoni & Michael Woodford, 2003. "Optimal Inflation Targeting Rules," NBER Working Papers 9939, National Bureau of Economic Research, Inc.
  5. Thomas Laubach & Jeffery D. Amato, 2000. "Monetary policy in an estimated optimisation-based model with sticky prices and wages," BIS Working Papers 87, Bank for International Settlements.
  6. Caplin, Andrew & Leahy, John, 1991. "State-Dependent Pricing and the Dynamics of Money and Output," The Quarterly Journal of Economics, MIT Press, vol. 106(3), pages 683-708, August.
  7. Julio J. Rotemberg & Michael Woodford, 1998. "Interest-Rate Rules in an Estimated Sticky Price Model," NBER Working Papers 6618, National Bureau of Economic Research, Inc.
  8. Ravenna, Federico & Walsh, Carl E., 2006. "Optimal monetary policy with the cost channel," Journal of Monetary Economics, Elsevier, vol. 53(2), pages 199-216, March.
  9. Simon Hall & Mark Walsh & Anthony Yates, 1997. "How do UK companies set prices?," Bank of England working papers 67, Bank of England.
  10. Mark J. Zbaracki & Mark Ritson & Daniel Levy & Shantanu Dutta & Mark Bergen, 2004. "Managerial and Customer Costs of Price Adjustment: Direct Evidence from Industrial Markets," The Review of Economics and Statistics, MIT Press, vol. 86(2), pages 514-533, May.
  11. Sergio A. L. Alves & Waldyr D. Areosa, 2005. "Targets and Inflation Dynamics," Working Papers Series 100, Central Bank of Brazil, Research Department.
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