On the Granger Causality between Median Inflation and Price Dispersion

The Granger-causal relationship between the size and dispersion of fluctuations in sub-components of the U.S. Consumer Price Index (CPI) is examined using both in-sample and post- sample tests and data from January 1968 to December 2008. Strong in-sample evidence is found for feedback between median inflation and price dispersion; the evidence for Granger-causation from median inflation to price dispersion remains strong in out-of-sample testing, but is less strong for Granger-causation in the opposite direction. The implications of these results for the variety of price-level determination models in the literature are discussed.