Paralyzed by Fear: Rigid and Discrete Pricing Under Demand Uncertainty

Cosmin Ilut, Rosen Valchev and Nicolas Vincent

Econometrica, 2020, vol. 88, issue 5, 1899-1938

Abstract: We propose a new theory of price rigidity based on firms' Knightian uncertainty about their competitive environment. This uncertainty has two key implications. First, firms learn about the shape of their demand function from past observations of quantities sold. This learning gives rise to kinks in the expected profit function at previously observed prices, making those prices both sticky and more likely to reoccur. Second, uncertainty about the relationship between aggregate and industry‐level inflation generates nominal rigidity. We prove the main insights analytically and quantify the effects of our mechanism. Our estimated quantitative model is consistent with a wide range of micro‐level pricing facts that are typically challenging to match jointly. It also implies significantly more persistent monetary non‐neutrality than in standard models, allowing it to generate large real effects from nominal shocks.

Date: 2020
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (23)

Downloads: (external link)
https://doi.org/10.3982/ECTA14234

Related works:
Working Paper: Paralyzed by Fear: Rigid and Discrete Pricing under Demand Uncertainty (2016)
Working Paper: Paralyzed by Fear: Rigid and Discrete Pricing under Demand Uncertainty (2016)
Working Paper: Paralyzed by Fear: Rigid and Discrete Pricing under Demand Uncertainty (2014)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wly:emetrp:v:88:y:2020:i:5:p:1899-1938

Ordering information: This journal article can be ordered from
https://www.economet ... ordering-back-issues

Access Statistics for this article

Econometrica is currently edited by Guido W. Imbens

More articles in Econometrica from Econometric Society Contact information at EDIRC.
Bibliographic data for series maintained by Wiley Content Delivery ().