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Is a Calvo Price Setting Model Consistent with Individual Price Data?

Author

Listed:
  • Alvarez Luis J.

    () (Banco de España)

  • Burriel Pablo

    () (Banco de España)

Abstract

This paper shows that the standard Calvo model clearly fails to account for the distribution of price durations found in micro data. We propose a novel price setting model that fully captures heterogeneity in individual pricing behavior. Specifically, we assume that there is a continuum of firms that set prices according to a Calvo mechanism, each of them with a possibly different price adjustment parameter. The model is estimated by maximum likelihood and closely matches individual consumer and producer price data. Incorporating estimated price setting rules into a standard DSGE model shows that fully accounting for pricing heterogeneity is crucial to understanding inflation and output dynamics. The standard calibration that assumes within sector homogeneity, as in Carvalho (2006), is at odds with micro data evidence and leads to a substantial distortion of estimates of the real impact of monetary policy.

Suggested Citation

  • Alvarez Luis J. & Burriel Pablo, 2010. "Is a Calvo Price Setting Model Consistent with Individual Price Data?," The B.E. Journal of Macroeconomics, De Gruyter, vol. 10(1), pages 1-25, May.
  • Handle: RePEc:bpj:bejmac:v:10:y:2010:i:1:n:13
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    References listed on IDEAS

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    Cited by:

    1. Bouakez, Hafedh & Cardia, Emanuela & Ruge-Murcia, Francisco, 2014. "Sectoral price rigidity and aggregate dynamics," European Economic Review, Elsevier, vol. 65(C), pages 1-22.
    2. Etro, Federico & Rossi, Lorenza, 2015. "Optimal monetary policy under Calvo pricing with Bertrand competition," Journal of Macroeconomics, Elsevier, pages 423-440.
    3. Carlos Usabiaga & Diego Romero-Ávila, 2012. "New Disaggregate Evidence on Spanish Inflation Persistence," EcoMod2012 3800, EcoMod.

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