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How robust are popular models of nominal frictions?

  • Benjamin D. Keen
  • Evan F. Koenig

This paper analyzes three popular models of nominal price and wage frictions to determine which best fits post-war U.S. data. We construct a dynamic stochastic general equilibrium (DSGE) model and use maximum likelihood to estimate each model's parameters. Because previous research finds that the conduct of monetary policy and the behavior of inflation changed in the early 1980s, we examine two distinct sample periods. Using a Bayesian, pseudo-odds measure as a means for comparison, a sticky price and wage model with dynamic indexation best fits the data in the early-sample period, whereas either a sticky price and wage model with static indexation or a sticky information model best fits the data in the late-sample period. Our results suggest that price- and wage-setting behavior may be sensitive to changes in the monetary policy regime. If true, the evaluation of alternative monetary policy rules may be even more complicated than previously believed.

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File URL: http://dallasfed.org/assets/documents/research/papers/2009/wp0903.pdf
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Paper provided by Federal Reserve Bank of Dallas in its series Working Papers with number 0903.

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Date of creation: 2009
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Handle: RePEc:fip:feddwp:0903
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  10. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
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  12. Lawrence J. Christiano & Martin Eichenbaum, 1990. "Current real business cycle theories and aggregate labor market fluctuations," Discussion Paper / Institute for Empirical Macroeconomics 24, Federal Reserve Bank of Minneapolis.
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  18. Olivier Coibion, 2007. "Testing the Sticky Information Phillips Curve," Working Papers 61, Department of Economics, College of William and Mary.
  19. Timothy Cogley & Argia M. Sbordone, 2008. "Trend Inflation, Indexation, and Inflation Persistence in the New Keynesian Phillips Curve," American Economic Review, American Economic Association, vol. 98(5), pages 2101-26, December.
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  27. Martin Evans & Paul Wachtel, 1993. "Inflation regimes and the sources of inflation uncertainty," Proceedings, Federal Reserve Bank of Cleveland, pages 475-520.
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