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Optimal monetary policy, endogenous sticky prices and multiplicity of equilibria

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  • Levon Barseghyan
  • Riccardo DiCecio

Abstract

We analyze optimal discretionary monetary policy in an endogenous sticky prices model. Similar models with exogenous sticky prices can deliver multiple equilibria. This is a necessary condition for the occurrence of expectation traps (when private agents’ expectations determine the equilibrium level of inflation). In our model, sticky price firms are allowed to switch to flexible pricing by paying a random cost. For plausible parametrizations, our model has a unique low-inflation equilibrium. With endogenous sticky prices, the monetary authority does not validate high-inflation expectations and deviates to the Friedman rule.

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Bibliographic Info

Paper provided by Federal Reserve Bank of St. Louis in its series Working Papers with number 2005-036.

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Date of creation: 2007
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Publication status: Published in Topics in Macroeconomics, January 2007, 7(1), Article 8
Handle: RePEc:fip:fedlwp:2005-036

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Keywords: Monetary policy ; Prices;

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  1. Stefania Albanesi & V.V. Chari & Lawrence J. Christiano, . "Expectation Traps and Monetary Policy," Working Papers 198, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
  2. Lucas, Robert E, Jr & Stokey, Nancy L, 1987. "Money and Interest in a Cash-in-Advance Economy," Econometrica, Econometric Society, vol. 55(3), pages 491-513, May.
  3. Robert J. Barro & David B. Gordon, 1983. "Rules, Discretion and Reputation in a Model of Monetary Policy," NBER Working Papers 1079, National Bureau of Economic Research, Inc.
  4. Michael Dotsey & Robert G. King & Alexander L. Wolman, 1999. "State-Dependent Pricing And The General Equilibrium Dynamics Of Money And Output," The Quarterly Journal of Economics, MIT Press, vol. 114(2), pages 655-690, May.
  5. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
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Cited by:
  1. Siu, Henry, 2006. "Time consistent monetary policy with endogenous price rigidity," Economics working papers siu-06-06-15-02-39-39, Vancouver School of Economics, revised 20 Jun 2006.

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