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Price Flexibility and Output Stability: An Old Keynesian View

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Abstract

The central macroeconomic issue is the same as ever. How reliable are automatic market adjustments in maintaining full employment equilibrium in the face of aggregate demand shocks? Many modern theorists assume that nominal prices, including wages, jump instantaneously to keep supply and demand equal in all markets. No excess supply, no involuntary unemployment, can ever arise. However, since actual price adjustments take real time, greater flexibility can be destabilizing. "Real balance" effects are overrated, and the demand effects of nominal price changes are perverse. Activist macro policies are necessary, as Keynes argued, even though nominal prices are far from rigid.

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Paper provided by Cowles Foundation for Research in Economics, Yale University in its series Cowles Foundation Discussion Papers with number 994R.

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Length: 36 pages
Date of creation: 1991
Date of revision: Sep 1991
Publication status: Published in Journal of Economic Perspectives (Winter 1993), 7(1): 45-65
Handle: RePEc:cwl:cwldpp:994r

Note: CFP 834.
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Keywords: Aggregate demand; sticky prices;

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  1. James Tobin, 1955. "A Dynamic Aggregative Model," Journal of Political Economy, University of Chicago Press, vol. 63, pages 103.
  2. Dudley Dillard, 1988. "The Barter Illusion in Classical and Neoclassical Economics," Eastern Economic Journal, Eastern Economic Association, vol. 14(4), pages 299-318, Oct-Dec.
  3. Plosser, C.I., 1989. "Understanding Real Business Cycles," RCER Working Papers 198, University of Rochester - Center for Economic Research (RCER).
  4. Cooper, Russell & John, Andrew, 1988. "Coordinating Coordination Failures in Keynesian Models," The Quarterly Journal of Economics, MIT Press, vol. 103(3), pages 441-63, August.
  5. Fischer, Stanley, 1977. "Long-Term Contracts, Rational Expectations, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 85(1), pages 191-205, February.
  6. Chadha, Binky, 1989. "Is Increased Price Inflexibility Stabilizing?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 21(4), pages 481-97, November.
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As found by EconAcademics.org, the blog aggregator for Economics research:
  1. A note on “awesomely destructive” fiscal policies
    by ssumner in The Money Illusion on 2013-12-14 20:03:28
  2. [経済]ニューケインジアンの5つのテーゼ
    by himaginary in himaginaryの日記 on 2013-12-26 00:00:00
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