The Behavior of Price Dispersion in a Natural Experiment

We study the behavior of prices in Poland following the big-bang market reforms in 1990, using a large, disaggregated data set. Price differences within and across regions are initially large but fall rapidly in the early stages of transition. For most goods, the rapid decline ends within a year. Dispersion is low for goods which are expensive, are bought frequently, constitute a large portion of household expenditures, and in markets characterized by intensive search for the best price. Inflation and inflation variability explain only part of the changes of price dispersion over time. The behavior of price dispersion is consistent with search for the best price and arbitrage. Overall, prices behave as economic theory predicts they would.