Discussion Paper Series 2017-E-11

Market Concentration and Sectoral Inflation under Imperfect Common Knowledge

Ryo Kato, Tatsushi Okuda

We show empirical evidence that sectoral inflation persistence, measured by autocorrelation of monthly changes in US producer prices, is starkly dispersed and negatively correlated with market concentration across sectors. To account for such empirical observation, we develop a dynamic stochastic model of firms' pricing strategy in which monopolistically competitive firms set their prices while receiving private signals on cost shocks. In the model, an increase in the number of competing firms raises strategic complementarity among the firms in the same sector. Using the model, we analytically show that, under imperfect common knowledge, sectoral inflation persistence is monotonically decreasing in market concentration.

Keywords: Imperfect common knowledge; Inflation persistence; Market concentration

Views expressed in the paper are those of the authors and do not necessarily reflect those of the Bank of Japan or Institute for Monetary and Economic Studies.

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