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Should monetary policy target labor's share of income?

  • Jeremy B. Rudd
  • Karl Whelan

In recent work, Woodford (2001) presents evidence that using real unit labor costs (labor's share of income) as a driving variable in the new-Keynesian Phillips curve yields a superior fit for inflation relative to a model that uses deterministically detrended real GDP. This evidence leads him to conclude that the output gap the deviation between actual and potential output is better captured by the labor income share, in turn implying that the monetary authority should raise interest rates in response to increases in this variable. We document that the empirical case for the superiority of the labor's share version of the new-Keynesian model is actually quite weak, and conclude that there is little reason to view the labor income share as an appropriate target for monetary policy.

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Article provided by Federal Reserve Bank of San Francisco in its journal Proceedings.

Volume (Year): (2002)
Issue (Month): Mar ()

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Handle: RePEc:fip:fedfpr:y:2002:i:mar:x:4
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  1. Argia M. Sbordone, 2001. "Prices and Unit Labor Costs: A New Test of Price Stickiness," Departmental Working Papers 199822, Rutgers University, Department of Economics.
  2. Karl Whelan & Jeremy Rudd, 2001. "New tests of the New-Keynesian Phillips Curve," Open Access publications 10197/249, School of Economics, University College Dublin.
  3. Jordi Gali & Mark Gertler, 2000. "Inflation Dynamics: A Structural Econometric Analysis," NBER Working Papers 7551, National Bureau of Economic Research, Inc.
  4. Marvin Goodfriend & Robert G. King, 2001. "The Case for Price Stability," NBER Working Papers 8423, National Bureau of Economic Research, Inc.
  5. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Working Paper Series WP-01-08, Federal Reserve Bank of Chicago.
  6. Argia M. Sbordone, 2002. "An optimizing model of U.S. wage and price dynamics," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  7. John Campbell & Angus Deaton, 1989. "Why is Consumption So Smooth?," Review of Economic Studies, Oxford University Press, vol. 56(3), pages 357-373.
  8. repec:bla:restud:v:56:y:1989:i:3:p:357-73 is not listed on IDEAS
  9. Jeff Fuhrer & George Moore, 1995. "Inflation Persistence," The Quarterly Journal of Economics, Oxford University Press, vol. 110(1), pages 127-159.
  10. Michael Dotsey & Robert G. King, 2006. "Pricing, Production, and Persistence," Journal of the European Economic Association, MIT Press, vol. 4(5), pages 893-928, 09.
  11. Julio J. Rotemberg & Michael Woodford, 1999. "The Cyclical Behavior of Prices and Costs," NBER Working Papers 6909, National Bureau of Economic Research, Inc.
  12. Campbell, John & Deaton, Angus, 1989. "Why Is Consumption So Smooth?," Scholarly Articles 3221494, Harvard University Department of Economics.
  13. Michael Woodford, 2001. "The Taylor Rule and Optimal Monetary Policy," American Economic Review, American Economic Association, vol. 91(2), pages 232-237, May.
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