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A framework for the analysis of moderate inflations

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  • Marvin Goodfriend

Abstract

Optimal monetary policy is studied in a model with no contractual restrictions or physical costs of changing prices. Nevertheless, the price level is sticky in a range of markup indeterminacy, and inflation occurs only when employment presses against capacity. Under full information, the monetary authority can exploit price level stickiness to minimize the markup and keep employment at a constrained optimum without inflation. Under uncertainty, negative aggregate demand shocks produce real contractions and positive shocks raise the price level. The monetary authority can raise the likelihood that aggregate demand will maximize employment, but at the cost of higher expected inflation.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Richmond in its series Working Paper with number 97-04.

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Date of creation: 1997
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Handle: RePEc:fip:fedrwp:97-04

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Keywords: Inflation (Finance);

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References

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  1. Carlton, Dennis W., 1989. "The theory and the facts of how markets clear: Is industrial organization valuable for understanding macroeconomics?," Handbook of Industrial Organization, in: R. Schmalensee & R. Willig (ed.), Handbook of Industrial Organization, edition 1, volume 1, chapter 15, pages 909-946 Elsevier.
  2. Bils, Mark, 1987. "The Cyclical Behavior of Marginal Cost and Price," American Economic Review, American Economic Association, vol. 77(5), pages 838-55, December.
  3. Julio J. Rotemberg & Michael Woodford, 1991. "Markups and the Business Cycle," NBER Chapters, in: NBER Macroeconomics Annual 1991, Volume 6, pages 63-140 National Bureau of Economic Research, Inc.
  4. Stiglitz, Joseph E, 1984. "Price Rigidities and Market Structure," American Economic Review, American Economic Association, vol. 74(2), pages 350-55, May.
  5. King, Robert G. & Watson, Mark W., 1994. "The post-war U.S. phillips curve: a revisionist econometric history," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 41(1), pages 157-219, December.
  6. Hall, Robert E, 1988. "The Relation between Price and Marginal Cost in U.S. Industry," Journal of Political Economy, University of Chicago Press, vol. 96(5), pages 921-47, October.
  7. Woglom, Geoffrey, 1982. "Underemployment Equilibrium with Rational Expectations," The Quarterly Journal of Economics, MIT Press, vol. 97(1), pages 89-107, February.
  8. Herschel I. Grossman & John B. Van Huyck, 1987. "Seigniorage, Inflation, and Reputation," NBER Working Papers 1505, National Bureau of Economic Research, Inc.
  9. Barro, Robert J. & Gordon, David B., 1983. "Rules, discretion and reputation in a model of monetary policy," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 101-121.
  10. Julio J. Rotemberg & Michael Woodford, 1989. "Oligopolistic Pricing and the Effects of Aggregate Demand on Economic Activity," NBER Working Papers 3206, National Bureau of Economic Research, Inc.
  11. Ball, Laurence & Romer, David, 1990. "Real Rigidities and the Non-neutrality of Money," Review of Economic Studies, Wiley Blackwell, vol. 57(2), pages 183-203, April.
  12. Stiglitz, Joseph E, 1987. "Competition and the Number of Firms in a Market: Are Duopolies More Competitive than Atomistic Markets?," Journal of Political Economy, University of Chicago Press, vol. 95(5), pages 1041-61, October.
  13. Blanchard, Olivier Jean & Kiyotaki, Nobuhiro, 1987. "Monopolistic Competition and the Effects of Aggregate Demand," American Economic Review, American Economic Association, vol. 77(4), pages 647-66, September.
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Cited by:
  1. O'Reilly, B., 1998. "The Benefits of Low Inflation: Taking Shock "A nickel ain't worth a dime any more" [Yogi Berra]," Technical Reports 83, Bank of Canada.
  2. Aubhik Khan & Robert G. King & Alexander L. Wolman, 2002. "Optimal Monetary Policy," NBER Working Papers 9402, National Bureau of Economic Research, Inc.
  3. Alexander L. Wolman, 2000. "The frequency and costs of individual price adjustments," Economic Quarterly, Federal Reserve Bank of Richmond, issue Fall, pages 1-22.
  4. Wu, Yangru & Zhang, Junxi, 2000. "Monopolistic competition, increasing returns to scale, and the welfare costs of inflation," Journal of Monetary Economics, Elsevier, vol. 46(2), pages 417-440, October.
  5. Cysne, Rubens Penha & Turchick, David, 2008. "On the Consistency of Arbitrary Money-Demand Functions with the Sidrauski and the Shopping-Time Models," Economics Working Papers (Ensaios Economicos da EPGE) 666, FGV/EPGE Escola Brasileira de Economia e Finanças, Getulio Vargas Foundation (Brazil).
  6. Ariff, Mohamed & Chung, Tin-fah & M., Shamsher, 2012. "Money supply, interest rate, liquidity and share prices: A test of their linkage," Global Finance Journal, Elsevier, vol. 23(3), pages 202-220.
  7. Robert G. King & Alexander L. Wolman, 1996. "Inflation Targeting in a St. Louis Model of the 21st Century," NBER Working Papers 5507, National Bureau of Economic Research, Inc.
  8. Max Gillman & Michal Kejak, 2005. "Inflation and Balanced-Path Growth with Alternative Payment Mechanisms," Economic Journal, Royal Economic Society, vol. 115(500), pages 247-270, 01.
  9. Marvin Goodfriend & Robert G. King, 2001. "The Case for Price Stability," NBER Working Papers 8423, National Bureau of Economic Research, Inc.
  10. Jeannine Bailliu & Daniel Garcés & Mark Kruger & Miguel Messmacher, 2003. "Explaining and Forecasting Inflation in Emerging Markets: The Case of Mexico," Working Papers 03-17, Bank of Canada.
  11. Cysne, Rubens Penha & Turchick, David, 2009. "On the integrability of money-demand functions by the Sidrauski and the shopping-time models," Journal of Banking & Finance, Elsevier, vol. 33(9), pages 1555-1562, September.
  12. Héctor Mauricio Nuñez Amortegui, 2005. "Una evaluación de los pronósticos de inflación en Colombia bajo el esquema de inflación objetivo," REVISTA DE ECONOMÍA DEL ROSARIO, UNIVERSIDAD DEL ROSARIO.
  13. Alimi, R. Santos, 2012. "The Quantity Theory of Money and Its Long Run Implications: Empirical Evidence from Nigeria," MPRA Paper 49598, University Library of Munich, Germany.

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