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Technology, Utilization and Inflation: What Drives the New Keynesian Phillips Curve?

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Author Info

  • Peter McAdam

    (University of Surrey and European Central Bank)

  • Alpo Willman

    (European Central Bank)

Abstract

We argue that the New-Keynesian Phillips Curve literature has failed to deliver a convincing measure of real marginal costs. We start from a careful modeling of optimal price setting allowing for non-unitary factor substitution, non-neutral technical change and time-varying factor utilization rates. This ensures the resulting real marginal cost measures match volatility reductions and level changes witnessed in many US time series. The cost measure comprises conventional counter-cyclical cost elements plus pro-cyclical (and co-varying) utilization rates. Although pro-cyclical elements seem to dominate, the components of real marginal cost components are becoming less cyclical over time. Incorporating this richer driving variable produces more plausible price-stickiness estimates than otherwise and suggests a more balanced weight of backward and forward-looking inflation expectations than commonly found. Our results challenge existing views of inflation determinants and have important implications for modeling inflation in New-Keynesian models.

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Bibliographic Info

Paper provided by School of Economics, University of Surrey in its series School of Economics Discussion Papers with number 0912.

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Length: 33 pages
Date of creation: Aug 2012
Date of revision:
Handle: RePEc:sur:surrec:0912

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Web page: http://www.surrey.ac.uk/economics/
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Keywords: Inflation; Real Marginal Costs; Production Function; Labor Share; Cyclicality; Utilization; Intensive Labor; Overtime Premia;

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References

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Citations

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Cited by:
  1. Sophocles Mavroeidis & Mikkel Plagborg-Møller & James H. Stock, 2014. "Empirical Evidence on Inflation Expectations in the New Keynesian Phillips Curve," Journal of Economic Literature, American Economic Association, vol. 52(1), pages 124-88, March.
  2. Klump, Rainer & McAdam, Peter & Willman, Alpo, 2011. "The normalized CES production function: theory and empirics," Working Paper Series 1294, European Central Bank.
  3. McAdam, Peter & Willman, Alpo, 2011. "Technology, utilization and inflation: what drives the New Keynesian Phillips Curve?," Working Paper Series 1369, European Central Bank.

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