Inflation and Asymmetric Price Adjustment

Abstract

This paper uses a unique micro data set to test for the presence of price asymmetries at the firm level. We find that firm pricing is indeed asymmetric, as Tobin (1972) suggested long ago. Moreover, there is strong evidence to support Ball and Mankiw's (1994) suggestion that firm price asymmetry is dependent on inflation. However, Ball and Mankiw's theory seems to hold better for changes in costs than for changes in demand, a result which is consistent with the idea that firm pricing is influenced by a desire to preserve customer relations (Okun, 1981) or by information uncertainty (Dixit, 1976, Bhaduri and Falkinger, 1990). There is pervasive evidence of asymmetry in response to changes in costs during high inflation which tends to disappear during low inflation. There is no evidence .of asymmetry in response to demand shocks at high rates of inflation. However, there is evidence that price changes are more responsive to demand decreases than to demand increases_ and this is more nota\)le during low inflation. Thus, the effect of , ' . different rates of inflation on the demand asymmetry is broadly consistent with Ball and Mankiw's hypothesis.