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Competitiveness, inflation, and monetary policy

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  • Hashmat Khan
  • Richhild Moessner

Abstract

This paper examines the way in which structural changes in the level of steady-state competitiveness and the trend rate of inflation affect inflation responses to monetary policy shocks, in scenarios chosen to capture broadly the conditions of the UK economy in the early 1990s and more recently. Cyclical changes in competitiveness are also considered, since it is not clear empirically whether changes in competitiveness have been predominantly structural or cyclical. A model based on work by Woodford is used, allowing for positive trend inflation and cyclical variations in competitiveness in a tractable manner. This extension enables the separate quantification of the impact of differences in the steady-state level of and cyclical changes in competitiveness on inflation in the short term, in high and low inflation environments. The paper quantifies the extent to which procyclical (countercyclical) changes in competitiveness dampen (amplify) the impulse responses of inflation to a given monetary policy shock. In the calibration used, the inflation response to monetary policy shocks in a low inflation/high competitiveness environment is dampened compared with a high inflation/low competitiveness environment. By contrast, inflation responses to monetary policy shocks in a low inflation/low competitiveness environment are similar to those in a high inflation/high competitiveness environment.

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Paper provided by Bank of England in its series Bank of England working papers with number 246.

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Date of creation: Jan 2005
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Handle: RePEc:boe:boeewp:246

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Cited by:
  1. Hashmat Khan, 2004. "Price-setting behaviour, competition, and mark-up shocks in the New Keynesian model," Bank of England working papers, Bank of England 240, Bank of England.
  2. Colin Ellis, 2006. "Elasticities, markups and technical progress: evidence from a state-space approach," Bank of England working papers, Bank of England 300, Bank of England.
  3. Gbaguidi, David Sedo, 2011. "Regime Switching in a New Keynesian Phillips Curve with Non-zero Steady-state Inflation Rate," MPRA Paper 35481, University Library of Munich, Germany.
  4. Argia M. Sbordone & Timothy Cogley, 2004. "A Search for a Structural Phillips Curve," Computing in Economics and Finance 2004, Society for Computational Economics 291, Society for Computational Economics.
  5. Gbaguidi S. DAVID, 2011. "Expectations Impact On The Effectiveness Of The Inflation-Real Activity Trade-Off," Theoretical and Practical Research in Economic Fields, ASERS Publishing, ASERS Publishing, vol. 0(2), pages 141-182, December.

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