One of the euro’s founding objectives was price convergence. The hope was that consumer markets would become more integrated and prices would tend to equalize across countries. Our latest papers suggests that this is working precisely as intended for some industries.
In “Currency Unions, Product Introductions, and the Real Exchange Rate” [Cavallo, Neiman and Rigobon – Quarterly Journal of Economics (2014) ], we study the pricing behaviour of four industry leaders: Apple, IKEA, H&M, and Zara. These companies’ online prices are generally identical to their offline prices. We analyse how the prices of these stores differ across countries for identical goods, and evaluate how cross-country price dispersion depends on the currency of denomination. We find that prices from the exact same store for the exact same product differ significantly across countries outside the Eurozone, but are often identical within the Eurozone.
This single price within currency unions is particularly surprising because it is not driven by the lack of nominal exchange rate volatility. In fact, we find significant levels of price dispersion even in countries with fixed exchange rates (eg. Denmark). Further, this is not a purely euro-specific phenomenon. We compare prices in the US to dollarised countries (such as Ecuador and El Salvador) and to countries with strong pegs to the dollar (such as Jordan and Lebanon). The qualitative pattern is the same – prices of identical goods sold in countries that share a currency are more similar than prices in countries with different currencies, even in the absence of exchange-rate fluctuations.
Our latest paper, “The Price Impact of Joining a Currency Union: Evidence from Latvia” [ Cavallo, Neiman, and Rigobon – NBER Working Paper 20225, June 2014 ] provides additional evidence using data from Zara for the recent introduction of the Euro in Latvia.
The figure below shows the price impact of the Euro’s introduction in Latvia, on January 1st 2014. Price dispersion, which as significant before the change, was reduced dramatically after it.
Notes: The figure shows histograms of log prices for each country relative to Latvia (when expressed in a common currency). An x-axis value of 0 means prices are identical whereas a value of 0.10 means the price is about 10% higher in the listed country than in Latvia. The y-axis measures the percentage of observations corresponding to that x-axis value. Each bilateral pair includes two histograms, one from 2012-2013 when Latvia had a pegged exchange rate and a second during 2014 after Latvia joined the euro zone. The prices included are weekly prices on approximately 5,000 goods each month sold by the world’s largest clothing retailer.
Overall, these results suggest a greater role for consumer psychology or firm organisational structure in macro models of price determination. Furthermore, regardless of their motivation, the pricing structure which emerges carries implications for the theory of optimal currency areas and for the path of external adjustment. We hope to continue exploring some of these possibilities in future research.