The Lead of Output Over Inflation in Sticky Price Models
Economics Bulletin, Vol. 5, No. 5, pp. 1-7, August 2002
Posted: 8 Sep 2003
Output growth is negatively correlated with inflation, detrended output is positively correlated with inflation, and output growth and detrended output lead inflation. I explore the consistency of these correlations with three models of price adjustment: the partial adjustment model, a staggered price setting model, and the P-bar model. The ratio of the variance of supply to demand shocks necessary to match the pattern of output-inflation correlations can be ranked across the three models; the P-Bar model requires the lowest ratio, and the partial adjustment model requires the highest ratio. The imperfect information aspects of staggered price setting and the P-bar model drive some of the output/inflation nexus, highlighting a link with the tradition from Hume to Lucas to recent work by Mankiw and Reis.
Keywords: P-bar Model, Output/Inflation Correlation, Partial Adjustment (Calvo Model), Phase Shift, Staggered Price Setting
JEL Classification: E3
Suggested Citation: Suggested Citation