THE OPTIMALITY OF PARTIAL PRICE ADJUSTMENT POLICIES

This paper studies the optimal price adjustment policies of a monopolistically competitive firm whose profit-maximizing price is subject to a serially correlated random disturbance. The firm chooses its price by comparing the expected cost of present and future price changes with the expected losses occurring when price deviates from its instantaneous profit-maximizing value. Partial price adjustment often is the best way to minimize the sum of these losses. Prices tend to be more flexible both in response to large shocks to the firm's profit-maximizing price and when much uncertainty exists about the future.