Law of One Price in the euro area: an empirical investigation using Nielsen disaggregated price data

This paper examines the Law of One Price using Nielsen disaggregated price data covering 13 euro area countries and 45 different product categories over the time period 2008 to 2012. The empirical methodology is based on a non-structural log-linear regression with spatial effects in both the geographical and product-variety dimensions, estimated by the Bayesian methods. The models link the relative prices of homogenous products in the sample of euro area countries to four distinct groups of factors: product-specific consumption preferences, country-specific macroeconomic and regional characteristics, volatility of prices and volumes, and spatial effects. The estimated reduced-form Law of One Price models uncover a strong interdependence of relative prices both on the geographical scale and across “similar” product varieties, going beyond the included set of explanatory variables and warranting further empirical investigation.