The Effects of Inflation on Relative Price Variability: The Importance of Price Regimes

Abstract

We use Chilean monthly data on the prices of 23 food products, between November 1970 and December 1976, to study: (i) the pass-through from the aggregate price to product-specific prices and, (ii) the effects of aggregate inflation on relative price variability. This is done in a context of price liberalization, which serves as a natural experiment to study whether these relationships change when there is price fixing. On the one hand, our results suggest that all prices increase after liberalization, but that this increase is larger for prices that were fixed. Moreover, the effect of the aggregate price on product-specific prices is, on average, positive an almost one-to-one, irrespective of the specification used. On the other hand, we find an average positive impact of inflation on relative price variability. Nonetheless, the latter result crucially depends on prices that were not liberalized: following the liberalization episode, inflation positively affected the relative price variability of fixed prices, while it had no effect on the relative price variability of liberalized prices. This suggests that the channel through which inflation affects relative price variability is its effects on products with fixed prices rather than prices determined by market forces.