Optimal Trend Inflation

78 Pages Posted: 27 Sep 2017 Last revised: 28 Feb 2018

See all articles by Klaus Adam

Klaus Adam

University of Mannheim; European Central Bank (ECB) - Department of Research; Centre for Economic Policy Research (CEPR)

Henning Weber

Deutsche Bundesbank

Multiple version iconThere are 5 versions of this paper

Date Written: July 12, 2017

Abstract

We present a sticky-price model incorporating heterogeneous Firms and systematic firm-level productivity trends. Aggregating the model in closed form, we show that it delivers radically different predictions for the optimal inflation rate than canonical sticky price models featuring homogenous Firms:

(1) the optimal steady-state inflation rate generically differs from zero and,

(2) inflation optimally responds to productivity disturbances.

Using micro data from the US Census Bureau to estimate the inflation-relevant productivity trends at the firm level, we find that the optimal US inflation rate is positive. It was slightly above 2 percent in the year 1986, but continuously declined thereafter, reaching about 1 percent in the year 2013.

Keywords: optimal inflation rate, sticky prices, firm heterogeneity

JEL Classification: E52, E31, E32

Suggested Citation

Adam, Klaus and Weber, Henning, Optimal Trend Inflation (July 12, 2017). CFS Working Paper, No. 579, Available at SSRN: https://ssrn.com/abstract=3043109 or http://dx.doi.org/10.2139/ssrn.3043109

Klaus Adam (Contact Author)

University of Mannheim ( email )

Department of Economics
L7 ,3-5
Mannheim, 68131
Germany

HOME PAGE: http://adam.vwl.uni-mannheim.de/1528.0.html

European Central Bank (ECB) - Department of Research ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany
+49 69 1344 6597 (Phone)

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Henning Weber

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany

HOME PAGE: http://www.bundesbank.de/en/henning-weber

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