Sectoral Prices and Price-setting
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Date
2016-10-27
Authors
Fulton, Chad
Journal Title
Journal ISSN
Volume Title
Publisher
University of Oregon
Abstract
This dissertation explores the price-setting behavior of firms both
theoretically and empirically. The first portion constructs a theoretical model
of price-setting in which firms are rationally inattentive: they cannot
perfectly attend to all sources of uncertainty. By accommodating multiple
sources of uncertainty within the model, it is possible to reasonably
calibrate key parameters of the model. This bolsters the case for rational
inattention as a microfounded alternative to ad-hoc mechanisms in order to
generate price-stickiness and it not only allows for multiple sectors but
demonstrates why their introduction is important.
The second portion contributes to the empirical literature exploring
disaggregated price series. Taking into account the lessons from the
theoretical model, a combination of dynamic factor and unobserved component
models are applied to explicitly model heterogenous dynamic processes for
sectoral prices. The key finding is that models with enforced homogenous
dynamics are outperformed under a variety of criteria. More importantly, models
with enforced homogenous dynamics can generate erroneous conclusions with
respect to the speed of price responses to aggregate and idiosyncratic shocks.
A large body of recent empirical work on price-setting, including the empirical
exercise described above, estimates a dynamic factor model using a relatively
simple and partially non-parametric method. This method is valid in large
samples, but alternative parametric methods exist that may be more efficient in
small samples. The final portion of this dissertation compares methods for the
estimation of dynamic factor models, including non-parametric, classical, and
Bayesian techniques. The results of a Monte Carlo experiment validate the use
of the partially non-parametric method, but find that the Bayesian approach
may provide weakly superior results.