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Inflation, Markups and Monetary Policy

  • Jonsson, Magnus

    ()

    (Research Department, Central Bank of Sweden)

  • Palmqvist, Stefan

    ()

    (Monetary Policy Department, Central Bank of Sweden)

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    The correlation between persistent changes in the markup in one sector of an economy and the inflation rate is quantified in a 2-sector dynamic general equilibrium model. How this relationship is affected by monetary policy is also studied. We find that the correlation is in general positive under an exogenous money growth rule as well as under an inflation targeting rule. That is, a decrease of the markup leads to a decrease in the CPI-inflation rate. However, if inflation is measured by an optimal price index that also includes the wage rate the correlation is slightly negative. That is, a decrease in the markup leads to higher inflation rates. This is due to higher wage rates. The correlation is sensitive to whether the policy rule includes an output term. If monetary policy accommodates output strongly the correlation is negative. A decrease in the markup leads to higher inflation rates, as measured by both the CPI and the optimal price index.

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    Paper provided by Sveriges Riksbank (Central Bank of Sweden) in its series Working Paper Series with number 148.

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    Length: 30 pages
    Date of creation: 01 Apr 2003
    Date of revision:
    Handle: RePEc:hhs:rbnkwp:0148
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    1. Robert S. Chirinko & Steven M. Fazzari, 2000. "Market Power and Inflation," CESifo Working Paper Series 277, CESifo Group Munich.
    2. Gerlach, Stefan & Svensson, Lars E. O., 2003. "Money and inflation in the euro area: A case for monetary indicators?," Journal of Monetary Economics, Elsevier, vol. 50(8), pages 1649-1672, November.
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    4. Charles T. Carlstrom & Timothy S. Fuerst, 2001. "Real Indeterminacy in Monetary Models with Nominal Interest Rate Distortions," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 4(4), pages 767-789, October.
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    6. Lars E O Svensson, 1996. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," Bank of England working papers 56, Bank of England.
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    8. N. Gregory Mankiw & Ricardo Reis, 2003. "What Measure of Inflation Should a Central Bank Target?," Journal of the European Economic Association, MIT Press, vol. 1(5), pages 1058-1086, 09.
    9. Hornstein, Andreas, 1993. "Monopolistic competition, increasing returns to scale, and the importance of productivity shocks," Journal of Monetary Economics, Elsevier, vol. 31(3), pages 299-316, June.
    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. Cooley, T.F. & Hansen, G.D., 1988. "The Inflation Tax In A Real Business Cycle Model," Papers 88-05, Rochester, Business - General.
    12. Smets, Frank & Wouters, Raf, 2002. "An estimated stochastic dynamic general equilibrium model of the euro area," Working Paper Series 0171, European Central Bank.
    13. Maurice Obstfeld & Kenneth S. Rogoff, 1996. "Foundations of International Macroeconomics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262150476, June.
    14. Eric M. Leeper & Christopher A. Sims & Tao Zha, 1996. "What Does Monetary Policy Do?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 27(2), pages 1-78.
    15. Katharine S. Neiss, 2001. "The markup and inflation: evidence in OECD countries," Canadian Journal of Economics, Canadian Economics Association, vol. 34(2), pages 570-587, May.
    16. Juster, F. Thomas & Stafford, Frank P., 1990. "The Allocation of Time: Empirical Findings, Behavioural Models, and Problems of Measurement," Working Paper Series 258, Research Institute of Industrial Economics.
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