Monetary Policy Implications of State-Dependent Prices and Wages

59 Pages Posted: 1 May 2019

See all articles by James Costain

James Costain

European Central Bank (ECB)

Anton Nakov

European Central Bank (ECB); CEPR

Borja Petit

Centre for Monetary and Financial Studies (CEMFI)

Multiple version iconThere are 3 versions of this paper

Date Written: April 26, 2019

Abstract

We study the effects of monetary shocks in a model of state-dependent price and wage adjustment based on “control costs”. Suppliers of retail goods and of labor are both monopolistic competitors that face idiosyncratic productivity shocks and nominal rigidities. Stickiness arises because precise decisions are costly, so agents choose to tolerate small errors in the timing of adjustments. Our simulations are calibrated to microdata on the size and frequency of price and wage changes. Money shocks have less persistent real effects in our state-dependent model than they would a time-dependent framework, but nonetheless we obtain sufficient monetary non-neutrality for consistency with macroeconomic evidence. Non-neutrality is primarily driven by wage rigidity, rather than price rigidity. State-dependent nominal rigidity implies a flatter Phillips curve as trend inflation declines, because nominal adjustments become less frequent, making short-run inflation less reactive to shocks.

Keywords: nominal rigidity, state-dependent adjustment, logit equilibrium, near rationality, control costs

JEL Classification: E31, D81, C73

Suggested Citation

Costain, James and Nakov, Anton A. and Petit, Borja, Monetary Policy Implications of State-Dependent Prices and Wages (April 26, 2019). ECB Working Paper No. 2272 (2019); ISBN 978-92-899-3534-0 . Available at SSRN: https://ssrn.com/abstract=3379618

James Costain (Contact Author)

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Anton A. Nakov

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

CEPR ( email )

London
United Kingdom

Borja Petit

Centre for Monetary and Financial Studies (CEMFI) ( email )

Casado del Alisal 5
28014 Madrid
Spain

HOME PAGE: http://https://borjapetit.github.io/

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