Product turnover and endogenous price flexibility in uncertain times

Makram Khalil and Vivien Lewis

No 18941, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Price setting has become more flexible following a string of large adverse shocks (Covid-19, the Ukraine War). We argue that a shift to a high-uncertainty regime incentivizes firms to invest in their ability to adjust prices. We formalize this idea in a general equilibrium model with endogenous price flexibility and entry-exit. Faced with higher uncertainty, firms set prices more flexibly. This improves their resilience, reducing exit and output losses in response to negative supply shocks. Local projections show that this predicted state-dependence of impulse responses is borne out in the data. Finally, we show that higher monetary policy uncertainty can be welfare-improving when shocks are large.

Keywords: Entry; Exit; Price flexibility; Supply shocks; Uncertainty (search for similar items in EconPapers)
JEL-codes: E22 E31 E32 (search for similar items in EconPapers)
Date: 2024-03
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