Linking Individual and Aggregate Price Changes.pdf

* Linking Individual and Aggregate Price Changes Attila Rátfai† Central European University May 2003 Abstract This paper develops an empirical model of price setting designed to capture the deviation between the target and the actual price, and applies it to a unique panel data set of store level retail prices. The aggregation of price deviations reveals that fluctuations in the shape of the cross-sectional density of price deviations convey extra information on inflation dynamics. Asymmetry in the density particularly matters. Idiosyncratic shocks alter the size but not the direction of inflation fluctuations. Key words: Inflation, (S,s) Pricing, Microeconomic Data, Simulated Maximum Likelihood * For valuable discussions and suggestions at the early stage of this project I thank Matthew Shapiro. Robert Barsky, Susanto Basu, Ufuk Demiroglu, Gábor Körösi, Plutarchos Sakellaris, Todd Stinebrickner, and seminar participants at Bar-Ilan, Bocconi-IGIER, Ente Einaudi, Haifa, Hebrew U, Michigan, Southampton, Tel-Aviv, the 2002 Econometric Society European Meeting in Venice, the 2002 International Conference on Panel Data in Berlin, the 2002 ‘Summer at CEU’ Workshop in Budapest provided helpful insights to previous drafts. Ádám Reiff added excellent research assistance and useful comments. The usual caveat applies. † Department of Economics, Central European University, Nádor u. 9., Budapest 1051, Hungary, Email: ratfaia@ceu.hu 1 Introduction Especially in countries having adopted inflation targeting as the focus of their monetary regime, policymakers are seeking to possess advance knowledge of forthcomin