Working Paper 2017-03: Xavier Jaravel
Xavier Jaravel, Postdoctoral Fellow in Economics, Stanford University and Stanford Institute for Economic Policy Research
Using detailed barcode-level data in the US retail sector, I find that from 2004 to 2013 higher-income households systematically experienced a larger increase in product variety and a lower inflation rate for continuing products. Annual inflation was 0.65 percentage points lower for households earning above $100,000 a year, relative to households making less than $30,000 a year. I explain this finding by the equilibrium response of firms to market size effects: (A) the relative demand for products consumed by high-income households increased because of growth and rising inequality; (B) in response, firms introduced more new products catering to such households; (C) as a result, continuing products in these market segments lowered their price due to increased competitive pressure. I use changes in demand plausibly exogenous to supply factors from shifts in the national income and age distributions over time to provide causal evidence that increasing relative demand leads to more new products and lower inflation for continuing products, implying that the long-term supply curve is downward-sloping. Based on this channel, I develop a model predicting a secular trend of faster-increasing product variety and lower inflation for higher-income households, which I test and validate using Consumer Price Index and Consumer Expenditure Survey data on the full consumption basket going back to 1953.