Pass-through with Price Dispersion

TL;DR

This paper develops a theoretical framework to analyze how cost shocks influence prices in markets with price dispersion, providing closed-form pass-through formulas and insights into market structure effects.

Contribution

It introduces a novel decomposition of the pass-through problem into competition and curvature layers, deriving invariant equilibrium margin distributions and robust pass-through formulas.

Findings

Closed-form pass-through formulas at each price quantile

Invariant equilibrium margin distributions to demand and costs

Robust bounds and comparative statics linking market structure to pass-through

Abstract

How do cost shocks pass through to prices in markets with price dispersion? We decompose the problem into two layers. In the competition layer, consumers' consideration sets determine equilibrium distributions of normalized margins. In the curvature layer, demand elasticity maps these margins into prices and pass-through rates. We prove the pricing game is strategically equivalent to a game over normalized margins, so equilibrium margin distributions are invariant to demand and costs. This separation yields closed-form pass-through formulas at each quantile of the price distribution, robust bounds across demand specifications, and sharp comparative statics linking market structure to incidence.