DP15248 Exchange Rate Shocks and Quality Adjustments

Author(s): Daniel Goetz, Alexander Rodnyansky
Publication Date: September 2020
Keyword(s): crisis, Demand estimation, Devaluations, exchange rate pass-through, Quality
JEL(s): E30, F14, F31, L11, L15, L16, L81, M11
Programme Areas: Industrial Organization, International Macroeconomics and Finance
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=15248

Do firms respond to cost shocks by reducing the quality of their products? Using microdata from a large Russian retailer that refreshes its product line twice-yearly, we document that higher quality products are more profitable than lower quality ones, but that the number of high quality products offered experiences a relative decrease after a large ruble devaluation in 2014. We show that rising firm costs-and not shrinking consumer incomes-explains the reallocation, and rationalize the data with a simple model that features consumer expenditure switching between high and low qualities. The reallocation to lower quality products reduces average pass-through by 15%.