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Evaluating the Calvo Model of Sticky Prices

  • Martin Eichenbaum
  • Jonas D.M. Fisher

Can variants of the classic Calvo (1983) model of sticky prices account for the statistical behavior of post-war US inflation? We develop and test versions of the model for which the answer to this question is yes. We then investigate whether these models imply plausible degrees of inertia in price setting behavior by firms. We find that they do, but only if we depart from two auxiliary assumptions made in standard expositions of the Calvo model. These assumptions are that monopolistically competitive firms face a constant elasticity of demand and capital can be instantaneously reallocated after a shock. When we modify these assumptions our model is consistent with the view that firms re-optimize prices

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 10617.

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Date of creation: Jul 2004
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Handle: RePEc:nbr:nberwo:10617
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