Some Evolutionary Foundations for Price Level Rigidity
AbstractThis Paper shows that price rigidity evolves in an economy populated by imperfectly rational agents who experiment with alternative rules of thumb. In the model, firms must set their prices in the face of aggregate shocks. The payoff depends on the level of aggregate demand, as well as on their on price and their ‘neighbor’s’ price. The latter assumption captures local interactions. Despite the fact that the rational expectations equilibrium (REE) is characterized by a simple pricing rule that firms can easily adopt, the economy does not converge to the REE for highly correlated aggregate demand shocks and a high level of local interaction. Instead, the aggregate price level exhibits rigidity, in that it does not fully react to contemporaneous aggregate demand shocks. We show that local interactions and serial correlation of aggregate demand shocks play a key role in generating those results.
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Bibliographic InfoPaper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 3150.
Date of creation: Jan 2002
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Other versions of this item:
- Gilles Saint-Paul, 2005. "Some Evolutionary Foundations for Price Level Rigidity," American Economic Review, American Economic Association, vol. 95(3), pages 765-779, June.
- Gilles Saint-Paul, 2002. "Some Evolutionary Foundations for Price Level Rigidity," CESifo Working Paper Series 720, CESifo Group Munich.
- D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search, Learning, and Information
- D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
- E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
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