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Pricing Policies and Inflation Inertia

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  • Michael Kumhof
  • Luis Felipe Céspedes
  • Eric Parrado

Abstract

This paper provides a monetary model with nominal rigidities that differs from the conventional New Keynesian model with firms setting pricing policies instead of price levels. In response to permanent or highly persistent monetary policy shocks this model generates the empirically observed slow (inertial) and prolonged (persistent) reaction of the inflation rate, and also the recession that typically accompanies moderate disinflations. The reason is that firms respond to such shocks mostly through a change in the long-run or inflation updating component of their pricing policies. With staggered pricing policies there is a time lag before this is reflected in aggregate inflation.

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Bibliographic Info

Paper provided by International Monetary Fund in its series IMF Working Papers with number 03/87.

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Length: 27
Date of creation: 01 Apr 2003
Date of revision:
Handle: RePEc:imf:imfwpa:03/87

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Keywords: Disinflation; Economic models; inflation; monetary policy; inflation rate; price level; monetary economics; steady-state inflation; rational expectations; inflation response; nominal interest rate; real interest rate; monetary policy rule; aggregate demand; central bank; monetary model; nominal interest rates; monetary fund; money supply; inflation rates; monetary regime; monetary conditions; real money; monetary authority; money balances; demand for money; inflation deviation; inflation stabilization; monetary theory; inflation target;

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References

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  1. Robert J. Gordon, 1996. "The Time-Varying NAIRU and its Implications for Economic Policy," NBER Working Papers 5735, National Bureau of Economic Research, Inc.
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  3. Christiano, Lawrence J & Eichenbaum, Martin & Evans, Charles, 1996. "The Effects of Monetary Policy Shocks: Evidence from the Flow of Funds," The Review of Economics and Statistics, MIT Press, vol. 78(1), pages 16-34, February.
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  19. Eric M. Leeper & Christopher A. Sims & Tao Zha, 1996. "What Does Monetary Policy Do?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 27(2), pages 1-78.
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Citations

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Cited by:
  1. Kolver Hernandez, 2004. "State-Dependent Nominal Rigidities & Disinflation Programs in Small Open Economies," Macroeconomics 0411021, EconWPA.
  2. Le, Vo Phuong Mai & Minford, Patrick, 2007. "Optimising Indexation Arrangements under Calvo Contracts and their Implications for Monetary Policy," CEPR Discussion Papers 6325, C.E.P.R. Discussion Papers.
  3. Douglas Laxton & Andrew Berg & Philippe D Karam, 2006. "A Practical Model-Based Approach to Monetary Policy Analysis: Overview," IMF Working Papers 06/80, International Monetary Fund.
  4. Jaromir Benes & Tibor Hledik & Michael Kumhof & David Vavra, 2005. "An Economy in Transition and DSGE: What the Czech National Bank’s New Projection Model Needs," Working Papers 2005/12, Czech National Bank, Research Department.

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