Market share and price rigidity

Survey evidence shows that the main reason why firms keep prices stable is that they are concerned about losing customers or market share. We construct a general equilibrium model in which firms care about the size of their customer base. Firms and customers form long-term relationships because consumers incur costs to switch sellers. In an environment with sectoral productivity shocks, we show that cost pass-through is a non-monotonic function of the size of switching costs. Specifically, prices tend to become more stable as the fraction of repeat customers increases and the elasticity of the customer base falls.