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Pricing under Fairness Concerns

Erik Eyster, Kristof Madarasz and Pascal Michaillat

Papers from arXiv.org

Abstract: This paper proposes a theory of pricing consistent with two well-documented patterns: customers care about fairness, and firms take these concerns into account when they set prices. The theory assumes that customers find a price unfair when it carries a high markup over cost, and that customers dislike unfair prices. Since markups are not observable, customers must extract them from prices. The theory assumes that customers infer less than rationally: when a price rises after an increase in marginal cost, customers partially misattribute the higher price to a higher markup---which they find unfair. Firms anticipate this response and trim their price increases, which reduces the passthrough of marginal costs into prices below one: prices are somewhat rigid. Embedded in a New Keynesian model---as a replacement of Calvo pricing---our theory produces monetary nonneutrality. When monetary policy loosens and inflation rises, customers misperceive markups as higher and feel unfairly treated; firms mitigate the perceived unfairness of prices by reducing their markups, which in general equilibrium leads to higher output.

New Economics Papers: this item is included in nep-cba, nep-com, nep-dge and nep-ind
Date: 2019-04, Revised 2019-06
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