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Labor-Market Frictions and Optimal Inflation

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  • Carlsson, Mikael

    () (Research Department, Central Bank of Sweden)

  • Westermark, Andreas

    () (Research Department, Central Bank of Sweden)

Abstract

In central theories of monetary non-neutrality the Ramsey optimal inflation rate varies between the negative of the real interest rate and zero. This paper explores how the interaction of nominal wage and search and matching frictions affect the policy prescription. We show that adding the combination of such frictions to the canonical monetary model can generate an optimal inflation rate that is significantly positive. Specifically, for a standard U.S. calibration, we find a Ramsey optimal inflation rate of 1.11 percent per year.

Suggested Citation

  • Carlsson, Mikael & Westermark, Andreas, 2012. "Labor-Market Frictions and Optimal Inflation," Working Paper Series 259, Sveriges Riksbank (Central Bank of Sweden).
    • Handle: RePEc:hhs:rbnkwp:0259
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    References listed on IDEAS

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    2. Ester Faia & Lorenza Rossi, 2013. "Union Power, Collective Bargaining, And Optimal Monetary Policy," Economic Inquiry, Western Economic Association International, vol. 51(1), pages 408-427, January.
    3. Kim, Jinill & Ruge-Murcia, Francisco J., 2011. "Monetary policy when wages are downwardly rigid: Friedman meets Tobin," Journal of Economic Dynamics and Control, Elsevier, vol. 35(12), pages 2064-2077.
    4. Christoffel, Kai & Kuester, Keith & Linzert, Tobias, 2009. "The role of labor markets for euro area monetary policy," European Economic Review, Elsevier, vol. 53(8), pages 908-936, November.
    5. Galuscak, Kamil & Keeney, Mary & Nicolitsas, Daphne & Smets, Frank & Strzelecki, Pawel & Vodopivec, Matija, 2012. "The determination of wages of newly hired employees: Survey evidence on internal versus external factors," Labour Economics, Elsevier, vol. 19(5), pages 802-812.
    6. Faia, Ester, 2009. "Ramsey monetary policy with labor market frictions," Journal of Monetary Economics, Elsevier, vol. 56(4), pages 570-581, May.
    7. Thomas, Carlos, 2008. "Search and matching frictions and optimal monetary policy," Journal of Monetary Economics, Elsevier, vol. 55(5), pages 936-956, July.
    8. Roberto M. Billi, 2011. "Optimal Inflation for the US Economy," American Economic Journal: Macroeconomics, American Economic Association, vol. 3(3), pages 29-52, July.
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    Citations

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    Cited by:

    1. Klaus Adam & Henning Weber, 2020. "Estimating the Optimal Inflation Target from Trends in Relative Prices," CRC TR 224 Discussion Paper Series crctr224_2020_144, University of Bonn and University of Mannheim, Germany.
    2. Adam, Klaus & Weber, Henning, 2019. "Price trends over the product life cycle and the optimal inflation target," Discussion Papers 32/2019, Deutsche Bundesbank.
    3. Antoine Lepetit, 2017. "The Optimal Inflation Rate with Discount Factor Heterogeneity," Working Papers hal-01527816, HAL.
    4. Philippe Andrade & Jordi Galí & Hervé Le Bihan & Julien Matheron, 2017. "The optimal inflation target and the natural rate of interest," Economics Working Papers 1591, Department of Economics and Business, Universitat Pompeu Fabra, revised Feb 2019.
    5. Klaus Adam & Henning Weber, 2019. "Optimal Trend Inflation," American Economic Review, American Economic Association, vol. 109(2), pages 702-737, February.
    6. Anders Vredin, 2015. "Inflation targeting and financial stability: providing policymakers with relevant information," BIS Working Papers 503, Bank for International Settlements.
    7. Tomohide Mineyama & Wataru Hirata & Kenji Nishizaki, 2019. "Inflation and Social Welfare in a New Keynesian Model: The Case of Japan and the U.S," Bank of Japan Working Paper Series 19-E-10, Bank of Japan.
    8. Alfredo García-Hiernaux & María T. González-Pérez & David E. Guerrero, 2020. "Eurozone prices: a tale of convergence and divergence," Working Papers 2010, Banco de España;Working Papers Homepage.
    9. Takushi Kurozumi & Willem Van Zandweghe, 2020. "Output-Inflation Trade-offs and the Optimal Inflation Rate," Working Papers 202020, Federal Reserve Bank of Cleveland.
    10. Adam, Klaus & Weber, Henning, 2017. "Optimal Trend Inflation," CEPR Discussion Papers 12160, C.E.P.R. Discussion Papers.
    11. Nurlan Turdaliev, 2019. "Heterogeneity and monetary policy," Journal of Economics, Springer, vol. 128(2), pages 119-145, October.

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    More about this item

    Keywords

    Optimal Monetary Policy; Inflation; Labor-market Distortions;

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • J60 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers - - - General

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