Product Cycles and Prices: a Search Foundation

This paper develops a price model with product cycles characterized by product entries and exits. Through a frictional product market with search and matching frictions, an endogenous product cycle is accompanied by a price cycle. This model nests the New Keynesian Phillips curve as a special case and generates several new phenomena in business cycle moments with product cycles. Using product-level micro data in Japan, we show that our price model well captures the observed features among product entry, number of products, demand, and price. Our model with a frictional product market replicates correlations between product matching probability and other variables. In a general equilibrium model for the Japanese economy, an endogenous product entry increases a price variation by 23 percent. This number increases to 35 percent with a price discounting after a first price. All results suggest that product cycles and search frictions play fundamental roles in describing price dynamics.