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Are Prices Too Sticky?

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  • Laurence M. Ball
  • David Romer

Abstract

This paper shows that small costs of changing nominal prices can lead to rigidities that cause highly inefficient fluctuations in real variables. As a result, aggregate demand stabilization can be very desirable even though the frictions that cause fluctuations in aggregate demand to have real effects are slight. Inefficient price rigidity arises because rigidity has a negative externality: rigidity in one firm's price increases the variability of real aggregate demand, which hurts all firms. The externality can be arbitrarily large relative to the private costs of rigidity.

Suggested Citation

  • Laurence M. Ball & David Romer, 1987. "Are Prices Too Sticky?," NBER Working Papers 2171, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:2171
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    1. N. Gregory Mankiw, 1985. "Small Menu Costs and Large Business Cycles: A Macroeconomic Model of Monopoly," The Quarterly Journal of Economics, Oxford University Press, vol. 100(2), pages 529-538.
    2. J. Bradford DeLong & Lawrence H. Summers, 1986. "The Changing Cyclical Variability of Economic Activity in the United States," NBER Chapters,in: The American Business Cycle: Continuity and Change, pages 679-734 National Bureau of Economic Research, Inc.
    3. George A. Akerlof & Janet L. Yellen, 1985. "A Near-Rational Model of the Business Cycle, with Wage and Price Inertia," The Quarterly Journal of Economics, Oxford University Press, vol. 100(Supplemen), pages 823-838.
    4. Martin L. Weitzman, 1986. "Macroeconomic Implications Of Profit Sharing," NBER Chapters,in: NBER Macroeconomics Annual 1986, Volume 1, pages 291-354 National Bureau of Economic Research, Inc.
    5. Timur Kuran, 1986. "Price Adjustment Costs, Anticipated Inflation, and Output," The Quarterly Journal of Economics, Oxford University Press, vol. 101(2), pages 407-418.
    6. Ball, Laurence Markham, 1987. "Externalities from Contract Length," American Economic Review, American Economic Association, vol. 77(4), pages 615-629, September.
    7. Weitzman, Martin L, 1985. "The Simple Macroeconomics of Profit Sharing," American Economic Review, American Economic Association, vol. 75(5), pages 937-953, December.
    8. Stephen Zeldes, "undated". "Optimal Consumption with Stochastic Income: Deviations from Certainty Equivalence," Rodney L. White Center for Financial Research Working Papers 20-86, Wharton School Rodney L. White Center for Financial Research.
    9. Schultze, Charles L, 1985. "Microeconomic Efficiency and Nominal Wage Stickiness," American Economic Review, American Economic Association, vol. 75(1), pages 1-15, March.
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