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Is the New Keynesian Phillips curve flat?

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  • Kuester, Keith
  • Müller, Gernot J.
  • Stölting, Sarah

Abstract

Macroeconomic data suggest that the New Keynesian Phillips curve is quite flat - despite microeconomic evidence implying frequent price adjustments. While real rigidities may help to account for the conflicting evidence, we propose an alternative explanation: if price markup/cost-push shocks are persistent and negatively correlated with the labor share, the latter being a widely used measure for marginal costs, the estimated pass-through of measured marginal costs into inflation is limited, even if prices are fairly flexible. Using a standard New Keynesian model, we show that the GMM approach to the New Keynesian Phillips curve leads to inconsistent and upward biased estimates if cost-push shocks indeed are persistent. Monte Carlo experiments suggest that the bias is quite sizeable: we find average price durations estimated as high as 12 quarters, when the true value is about 2 quarters. Moreover, alternative estimators appear to be biased as well, while standard diagnostic tests fail to signal a misspecification of the model. JEL Classification: E30, C15

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Bibliographic Info

Paper provided by European Central Bank in its series Working Paper Series with number 0809.

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Date of creation: Sep 2007
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Handle: RePEc:ecb:ecbwps:20070809

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Keywords: Cost-push shocks; GMM estimation; New Keynesian Phillips curve; Price Rigidities;

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Cited by:
  1. Minford, Patrick & Ou, Zhirong, 2009. "Taylor Rule or Optimal Timeless Policy? Reconsidering the Fed's behaviour since 1982," Cardiff Economics Working Papers E2009/19, Cardiff University, Cardiff Business School, Economics Section, revised May 2010.
  2. Minford, Patrick & Ou, Zhirong & Wickens, Michael, 2012. "Revisiting the Great Moderation: policy or luck?," Cardiff Economics Working Papers E2012/9, Cardiff University, Cardiff Business School, Economics Section, revised Apr 2014.

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