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Contracts and Money

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  • Boyan Jovanovic
  • Masako Ueda

Abstract

We analyze the contractual relation between workers and their employers when there is nominal risk. The key feature of the problem is that the consumption deflator is random and observed sometime after the effort is exerted. The worker's effort is not observable, and to induce the agent to work, second-best contracts do not insure the worker fully. They do eliminate all nominal risk for the parties (by fully indexing the terms of the contracts to the price level) but they would be re-negotiated. Foreseeing this, the parties to the contract will write one that is renegotiation-proof. Under such a contract, nominal shocks affect real consumption. Since the argument should apply in many situations, it will have macroeconomic implications, one of which is short-run non-neutrality of money. We have found that surprise money is likely to redistribute consumption and welfare towards workers, and away from shareholders.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 5637.

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Date of creation: Jun 1996
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Publication status: published as Journal of Political Economy (August1997): pp.700-709.
Handle: RePEc:nbr:nberwo:5637

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  1. David Card, 1988. "Unexpected Inflation, Real Wages, and Employment Determination in Union Contracts," Working Papers, Princeton University, Department of Economics, Industrial Relations Section. 612, Princeton University, Department of Economics, Industrial Relations Section..
  2. Fama, Eugene F, 1981. "Stock Returns, Real Activity, Inflation, and Money," American Economic Review, American Economic Association, American Economic Association, vol. 71(4), pages 545-65, September.
  3. Michael P. Keane, 1990. "Nominal contracting theories of unemployment: evidence from panel data," Discussion Paper / Institute for Empirical Macroeconomics, Federal Reserve Bank of Minneapolis 27, Federal Reserve Bank of Minneapolis.
  4. Perloff, Jeffrey M & Salop, Steven, 1984. "Equilibrium with product differentiation," Department of Agricultural & Resource Economics, UC Berkeley, Working Paper Series, Department of Agricultural & Resource Economics, UC Berkeley qt4cq0m6s3, Department of Agricultural & Resource Economics, UC Berkeley.
  5. Lawrence J. Christiano & Martin Eichenbaum, 1992. "Liquidity effects, monetary policy, and the business cycle," Discussion Paper / Institute for Empirical Macroeconomics, Federal Reserve Bank of Minneapolis 70, Federal Reserve Bank of Minneapolis.
  6. Benabou, Roland, 1992. "Inflation and markups : Theories and evidence from the retail trade sector," European Economic Review, Elsevier, Elsevier, vol. 36(2-3), pages 566-574, April.
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  8. Steven Shavell, 1979. "Risk Sharing and Incentives in the Principal and Agent Relationship," Bell Journal of Economics, The RAND Corporation, The RAND Corporation, vol. 10(1), pages 55-73, Spring.
  9. Grossman, Sanford & Weiss, Laurence, 1983. "A Transactions-Based Model of the Monetary Transmission Mechanism," American Economic Review, American Economic Association, American Economic Association, vol. 73(5), pages 871-80, December.
  10. Eden, Benjamin, 1994. "The Adjustment of Prices to Monetary Shocks When Trade Is Uncertain and Sequential," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 102(3), pages 493-509, June.
  11. Bengt Holmstrom, 1979. "Moral Hazard and Observability," Bell Journal of Economics, The RAND Corporation, The RAND Corporation, vol. 10(1), pages 74-91, Spring.
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  13. Lucas, Robert Jr., 1972. "Expectations and the neutrality of money," Journal of Economic Theory, Elsevier, Elsevier, vol. 4(2), pages 103-124, April.
  14. Olivier J. Blanchard, 1993. "Movements in the Equity Premium," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 24(2), pages 75-138.
  15. Julio J. Rotemberg, 1982. "A Monetary Equilibrium Model with Transactions Costs," NBER Working Papers 0978, National Bureau of Economic Research, Inc.
  16. Stephen D. Oliner & Glenn D. Rudebusch, 1994. "Is there a broad credit channel for monetary policy?," Working Paper Series / Economic Activity Section, Board of Governors of the Federal Reserve System (U.S.) 146, Board of Governors of the Federal Reserve System (U.S.).
  17. Chen, Nai-Fu & Roll, Richard & Ross, Stephen A, 1986. "Economic Forces and the Stock Market," The Journal of Business, University of Chicago Press, vol. 59(3), pages 383-403, July.
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  19. Kaskarelis, Ioannis A, 1993. "Inflation and the Mark-Up in UK Manufacturing Industry," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 55(4), pages 391-407, November.
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Cited by:
  1. Jovanovic, B. & Ueda, M., 1998. "Stock-Returns and Inflation in a Principal-Agent Economy," Working Papers, C.V. Starr Center for Applied Economics, New York University 98-15, C.V. Starr Center for Applied Economics, New York University.
  2. Mukerji, Sujoy & Tallon, Jean-Marc, 2004. "Ambiguity aversion and the absence of wage indexation," Journal of Monetary Economics, Elsevier, Elsevier, vol. 51(3), pages 653-670, April.
  3. Patrick Minford & Eric Nowell & Bruce Webb, 2003. "Nominal Contracting and Monetary Targets -- Drifting into Indexation," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 113(484), pages 65-100, January.
  4. Yaz Terajima & Vincenzo Quadrini & Cesaire Meh, 2009. "Real Effects of Price Stability with Endogenous Nominal Indexation," 2009 Meeting Papers, Society for Economic Dynamics 847, Society for Economic Dynamics.
  5. repec:hal:journl:halshs-00174562 is not listed on IDEAS
  6. Jones, L.E. & Manuelli, R.E, 1997. "Policy Uncertainty and Informational Monopolies: The Case of Monetary Policy," Working papers, Wisconsin Madison - Social Systems 9715, Wisconsin Madison - Social Systems.
  7. Young Sik Kim & Manjong Lee, 2011. "Unit of Account, Medium of Exchange, and Prices," Discussion Paper Series 1104, Institute of Economic Research, Korea University.
  8. Antoine Martin & Cyril Monnet, 2000. "When should labor contracts be nominal?," Working Papers, Federal Reserve Bank of Minneapolis 603, Federal Reserve Bank of Minneapolis.
  9. Martin Schneider & Matthias Doepke, 2010. "On the Optimality of a Dominant Unit of Account," 2010 Meeting Papers, Society for Economic Dynamics 1234, Society for Economic Dynamics.
  10. Marvin Goodfriend & Robert G. King, 2001. "The case for price stability," Working Paper, Federal Reserve Bank of Richmond 01-02, Federal Reserve Bank of Richmond.
  11. Boyd, John H. & Levine, Ross & Smith, Bruce D., 2001. "The impact of inflation on financial sector performance," Journal of Monetary Economics, Elsevier, Elsevier, vol. 47(2), pages 221-248, April.

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