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(In)Stability of the relationship between relative expenditure and prices of durable and non-durable goods

Bhatt, Vipul and Kishor, N. Kundan (2023): (In)Stability of the relationship between relative expenditure and prices of durable and non-durable goods.

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This study shows that, in a model with non-separable preferences for durable and non-durable goods, the effect of relative prices on the ratio of consumption for the two goods, known as the intratemporal elasticity of substitution, has decreased in the U.S. since 1981. We found that durable and non-durable goods were gross substitutes until 1981 and have been gross complements in the period after that. This break also had significant implications for short-term consumption dynamics. Although durable goods still drive most of the adjustment towards long-term equilibrium in non-durables, durables, and relative prices, the size of the adjustment has significantly decreased in the post-1981 period, suggesting slower convergence towards long-run equilibrium. Additionally, we found that the durable goods cycle has become more persistent over time. During the recent pandemic, durable goods were more than 20% above the long-term common trend that they share with non-durable goods and their relative prices. The findings of this study also have implications for the global supply chain pressures that have contributed to rapid inflation in the post-COVID period. The estimated durable goods cycle and the Global Supply Chain Pressure Index exhibit a non-linear relationship, where a deviation of more than 4.8% from the long-term common trend leads to a significant increase in the supply chain pressure index.

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