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Nominal wage rigidities and the propagation of monetary disturbances

  • Christopher J. Erceg

Recent research has challenged the ability of sticky price general equilibrium models to generate a contract multiplier, i.e., an effect of a monetary innovation on output that extends beyond the contract interval. We show that a simple dynamic general equilbrium model that includes "Taylor-style" (1980) wage and price contracts can account for a substantial contract multiplier under various assumptions about the structure of the capital market. Most interestingly, our results do not rely on a high intertemporal labor supply elasticity or elastic supply of capital: our preference specification is standard (logarithmic), and we can account for a strong contract multiplier even when the aggregate stock of capital is fixed. Finally, our analysis highlights the importance of the income elasticity of money demand in accounting for output persistence.

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Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 590.

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Date of creation: 1997
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Handle: RePEc:fip:fedgif:590
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  1. Cho, J.O. & Cooley, T.F., 1991. "The Business Cycle with Nominal Contracts," RCER Working Papers 260, University of Rochester - Center for Economic Research (RCER).
  2. V. V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 1998. "Sticky price models of the business cycle: can the contract multiplier solve the persistence problem?," Staff Report 217, Federal Reserve Bank of Minneapolis.
  3. Miles S. Kimball, 1995. "The Quantitative Analytics of the Basic Neomonetarist Model," NBER Working Papers 5046, National Bureau of Economic Research, Inc.
  4. David K. Backus & Patrick J. Kehoe & Finn E. Kydland, 1987. "International real business cycles," Working Papers 426, Federal Reserve Bank of Minneapolis.
  5. Julio J. Rotemberg, 1994. "Prices, Output and Hours: An Empirical Analysis Based on a Sticky Price Model," NBER Working Papers 4948, National Bureau of Economic Research, Inc.
  6. V. V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 1997. "Monetary Shocks and Real Exchange Rates in Sticky Price Models of International Business Cycles," NBER Working Papers 5876, National Bureau of Economic Research, Inc.
  7. Backus, David K & Kehoe, Patrick J, 1992. "International Evidence of the Historical Properties of Business Cycles," American Economic Review, American Economic Association, vol. 82(4), pages 864-88, September.
  8. Ball, Laurence & Romer, David, 1990. "Real Rigidities and the Non-neutrality of Money," Review of Economic Studies, Wiley Blackwell, vol. 57(2), pages 183-203, April.
  9. Bils, Mark, 1987. "The Cyclical Behavior of Marginal Cost and Price," American Economic Review, American Economic Association, vol. 77(5), pages 838-55, December.
  10. Blanchard, Olivier Jean & Kiyotaki, Nobuhiro, 1987. "Monopolistic Competition and the Effects of Aggregate Demand," American Economic Review, American Economic Association, vol. 77(4), pages 647-66, September.
  11. Altonji, Joseph G, 1986. "Intertemporal Substitution in Labor Supply: Evidence from Micro Data," Journal of Political Economy, University of Chicago Press, vol. 94(3), pages S176-S215, June.
  12. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
  13. Kollman, R., 1996. "The Exchange Rate in a Dynamic-Optimizing Current Account Model with Nominal Rigidities: a Quantitative Investigation," Cahiers de recherche 9614, Universite de Montreal, Departement de sciences economiques.
  14. Jinill Kim, 1998. "Monetary policy in a stochastic equilibrium model with real and nominal rigidities," Finance and Economics Discussion Series 1998-02, Board of Governors of the Federal Reserve System (U.S.).
  15. Ball, Laurence, 1994. "Credible Disinflation with Staggered Price-Setting," American Economic Review, American Economic Association, vol. 84(1), pages 282-89, March.
  16. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 1996. "Sticky price and limited participation models of money: a comparison," Working Paper Series, Macroeconomic Issues WP-96-28, Federal Reserve Bank of Chicago.
  17. Gilbert Ghez & Gary S. Becker, 1975. "The Allocation of Time and Goods over the Life Cycle," NBER Books, National Bureau of Economic Research, Inc, number ghez75-1, June.
  18. Michael Woodford, 1996. "Control of the Public Debt: A Requirement for Price Stability?," NBER Working Papers 5684, National Bureau of Economic Research, Inc.
  19. David Romer, 1993. "The New Keynesian Synthesis," Journal of Economic Perspectives, American Economic Association, vol. 7(1), pages 5-22, Winter.
  20. Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc.
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  23. repec:nbr:nberre:0126 is not listed on IDEAS
  24. Blanchard, Olivier Jean & Kahn, Charles M, 1980. "The Solution of Linear Difference Models under Rational Expectations," Econometrica, Econometric Society, vol. 48(5), pages 1305-11, July.
  25. Fischer, Stanley, 1977. "Long-Term Contracts, Rational Expectations, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 85(1), pages 191-205, February.
  26. Taylor, John B, 1980. "Aggregate Dynamics and Staggered Contracts," Journal of Political Economy, University of Chicago Press, vol. 88(1), pages 1-23, February.
  27. Evan F. Koenig, 1996. "Aggregate price adjustment: the Fischerian alternative," Working Papers 9615, Federal Reserve Bank of Dallas.
  28. Katharine G. Abraham & John C. Haltiwanger, 1995. "Real Wages and the Business Cycle," Journal of Economic Literature, American Economic Association, vol. 33(3), pages 1215-1264, September.
  29. Bils, Mark J, 1985. "Real Wages over the Business Cycle: Evidence from Panel Data," Journal of Political Economy, University of Chicago Press, vol. 93(4), pages 666-89, August.
  30. Robert Miguel W. K. Kollman, 1997. "The Exchange Rate in a Dynamic-Optimizing Current Account Model with Nominal Rigidities; A Quantitative Investigation," IMF Working Papers 97/7, International Monetary Fund.
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