The Impact of a Large Depreciation on the Cost of Living of Rich and Poor Consumers

We use retailer scanner data to analyze the impact of a large and sudden exchange rate shock on the cost of living of consumers. While the marginal cost of foreign-sourced products increases by 7 percent more than the costs of locally-sourced products, the retail markup on foreign products decreases by 4 percent relative to local products. At the same time, we document increased entry and exit of both foreign and local varieties around the depreciation. To analyze the impact on consumers we decompose the change in the cost of living into a cost, a retail markup, a substitution, and a variety effect. As richer consumers spend, on average, more on foreign varieties, we find that they are disproportionally affected by the cost effect. However, lower retail markups on foreign products offset this relative cost increase. Since richer consumers have lower elasticities of substitution and benefit more from changes in product variety, their cost of living increased only by 16 percent, while for poor consumers the cost of living increased by 24 percent.