Logit Price Dynamics

51 Pages Posted: 16 Jul 2014

See all articles by James S. Costain

James S. Costain

Banco de España - Research Department

Anton Nakov

European Central Bank (ECB); CEPR

Multiple version iconThere are 2 versions of this paper

Date Written: June 5, 2014

Abstract

We model retail price stickiness as the result of errors due to costly decision-making. Under our assumed cost function for the precision of choice, the timing of price adjustments and the prices firms set are both logit random variables. Errors in the prices firms set help explain micro "puzzles" relating to the sizes of price changes, the behavior of adjustment hazards, and the variability of prices and costs. Errors in adjustment timing increase the real effects of monetary shocks, by reducing the "selection effect". Allowing for both types of errors also helps explain how trend inflation affects price adjustment.

Keywords: nominal rigidity, logit equilibrium, state-dependent pricing, near rationality, information-constrained pricing

JEL Classification: E31, D81, C73

Suggested Citation

Costain, James S. and Nakov, Anton A., Logit Price Dynamics (June 5, 2014). ECB Working Paper No. 1693, Available at SSRN: https://ssrn.com/abstract=2446464 or http://dx.doi.org/10.2139/ssrn.2446464

James S. Costain (Contact Author)

Banco de España - Research Department ( email )

Alcala 50
28014 Madrid
Spain

Anton A. Nakov

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

CEPR ( email )

London
United Kingdom

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