Pricing Under Distress

 (with Andres Fernandez, Daniel Guzman, Ernesto Pasten, and Felipe Saffie)

The nature of uncertainty is key to determining the effectiveness of monetary policy. Pricing_Under_Distress
When uncertainty increases, it creates two confounding effects: a realization effect and an anticipation effect. In a menu cost model, while the realization effect increases the frequency of price changes, the anticipation effect reduces it. By using the 2019 riots in Chile as a quasi-natural experiment, we show that the pricing behavior of supermarkets is consistent with a pure anticipation effect: during the 31-day period following the start of the Riots, supermarkets reduce the frequency of price changes by about 50% and, conditional on a price change, the absolute magnitude of price changes is about 20% larger. A quantitative menu cost model with news about a future increase in idiosyncratic demand dispersion calibrated to Chilean product-level data can deliver the pricing dynamics observed during the Riots. We show that the
effectiveness of monetary policy interventions crucially depends on the timing of the intervention relative to the arrival of the news and whether or not the anticipated
change materializes.

First Draft : December 2021


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