The Case for Price Stability

60 Pages Posted: 14 Aug 2001 Last revised: 23 Oct 2010

See all articles by Marvin Goodfriend

Marvin Goodfriend

Carnegie Mellon University - David A. Tepper School of Business; National Bureau of Economic Research (NBER)

Robert G. King

Boston University - Department of Economics; Federal Reserve Bank of Richmond - Research Department; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: August 2001

Abstract

Reasoning within the New Neoclassical Synthesis (NNS) we previously recommended that price stability should be the primary objective of monetary policy. We called this a neutral policy because it keeps output at its potential, defined as the outcome of an imperfectly competitive real business cycle model with a constant markup of price over marginal cost. We explore the foundations of neutral policy more fully in this paper. Using the principles of public finance, we derive conditions under which markup constancy is optimal monetary policy. Price stability as the primary policy objective has been criticized on a number of grounds which we evaluate in this paper. We show that observed inflation persistence in U.S. time series is consistent with the absence of structural inflation stickiness as is the case in the benchmark NNS economy. We consider reasons why monetary policy might depart from markup constancy and price stability, but we argue that optimal departures are likely to be minor. Finally, we argue that the presence of nominal wage stickiness in labor markets does not undermine the case for neutral policy and price stability.

Suggested Citation

Goodfriend, Marvin and King, Robert G., The Case for Price Stability (August 2001). NBER Working Paper No. w8423. Available at SSRN: https://ssrn.com/abstract=279710

Marvin Goodfriend (Contact Author)

Carnegie Mellon University - David A. Tepper School of Business ( email )

5000 Forbes Avenue
Pittsburgh, PA 15213-3890
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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Robert G. King

Boston University - Department of Economics ( email )

270 Bay State Road
Boston, MA 02215
United States
617-353-5941 (Phone)

Federal Reserve Bank of Richmond - Research Department

P.O. Box 27622
Richmond, VA 23261
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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