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Sticky Price Models of the Business Cycle: Can the Contract Multiplier Solve the Persistence Problem?

  • V. V. Chari
  • Patrick J. Kehoe
  • Ellen R. McGrattan

The purpose of this paper is to construct a quantitative equilibrium model with price setting and use it to ask whether staggered price setting can generate persistent output fluctuations following monetary shocks. We construct a business cycle version of a standard sticky price model in which imperfectly competitive firms set nominal prices in a staggered fashion. We assume that prices are exogenously sticky for a short period of time. Persistent output fluctuations require endogenous price stickiness in the sense that firms choose not to change prices very much when they can do so. We find the amount of endogenous stickiness to be small. As a result, we find that such a model cannot generate persistent movements in output following monetary shocks.

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Article provided by Econometric Society in its journal Econometrica.

Volume (Year): 68 (2000)
Issue (Month): 5 (September)
Pages: 1151-1180

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Handle: RePEc:ecm:emetrp:v:68:y:2000:i:5:p:1151-1180
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  1. Cho, Jang-Ok & Cooley, Thomas F, 1995. "The Business Cycle with Nominal Contracts," Economic Theory, Springer, vol. 6(1), pages 13-33, June.
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  7. Robert E. Lucas, Jr. & Michael Woodford, 1993. "Real Effects of Monetary Shocks in an Economy with Sequential Purchases," NBER Working Papers 4250, National Bureau of Economic Research, Inc.
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  12. Robert G. King & Mark W. Watson, 1995. "Money, prices, interest rates and the business cycle," Working Paper Series, Macroeconomic Issues 95-10, Federal Reserve Bank of Chicago.
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  17. Lucas, Robert Jr., 1972. "Expectations and the neutrality of money," Journal of Economic Theory, Elsevier, vol. 4(2), pages 103-124, April.
  18. Olivier J. Blanchard, 1982. "Price Asynchronization and Price Level Inertia," NBER Working Papers 0900, National Bureau of Economic Research, Inc.
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