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Microeconomic Rigidities and Aggregate Price Dynamics

  • Ricardo J. Caballero
  • Eduardo M.R.A. Engel

This paper is an attempt to enrich the characterization of the sluggish behavior of the aggregate price level. Our contribution to this vast literature is to explicitly consider microeconomic heterogeneity and its interaction with nonlinear microeconomic price adjustment policies. The model we propose outperforms the constant-probability-of-adjustment/partial- adjustment model in describing the path of postwar U.S. inflation. Using only aggregate data, we infer that the probability that a firm adjusts its price depends on the sign and the magnitude of the deviation of the price from its target level. At the aggregate level we find that the aggregate price responds less to negative shocks than to positive shocks, that the size of this asymmetry increases with the size of the shock, and that the number of firms changing their prices - and therefore the flexibility of the price level to aggregate shocks - varies endogenously over time in response to changes in economic conditions.

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File URL: http://www.nber.org/papers/w4162.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 4162.

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Date of creation: Sep 1992
Date of revision:
Publication status: published as European Economic Review, 37 (4), 1993, 697-711.
Handle: RePEc:nbr:nberwo:4162
Note: EFG
Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
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  1. Robert J. Gordon, 1981. "Output Fluctuations and Gradual Price Adjustment," NBER Working Papers 0621, National Bureau of Economic Research, Inc.
  2. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
  3. Robert J. Gordon, 1984. "The Short-Run Demand for Money: A Reconsideration," NBER Working Papers 1421, National Bureau of Economic Research, Inc.
  4. Caballero, R.J., 1990. "A Fallacy Of Composition," Discussion Papers 1990_01, Columbia University, Department of Economics.
  5. Ricardo J. Caballero & Eduardo M.R.A. Engel, 1992. "Price Rigidities, Asymmetries, and Output Fluctuations," NBER Working Papers 4091, National Bureau of Economic Research, Inc.
  6. Caballero, Ricardo J & Engel, Eduardo M R A, 1992. "Beyond the Partial-Adjustment Model," American Economic Review, American Economic Association, vol. 82(2), pages 360-64, May.
  7. de Menil, George, 1974. "Aggregate Price Dynamics," The Review of Economics and Statistics, MIT Press, vol. 56(2), pages 129-40, May.
  8. 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.
  9. Caballero, R.J. & Engel, E.M.R.A., 1990. "Dynamic (S,S) Economies," Discussion Papers 1990_44, Columbia University, Department of Economics.
  10. Julio Rotemberg, 1987. "The New Keynesian Microfoundations," NBER Chapters, in: NBER Macroeconomics Annual 1987, Volume 2, pages 69-116 National Bureau of Economic Research, Inc.
  11. Ricardo J. Caballero & Eduardo M.R.A. Engel, 1992. "Microeconomic Adjustment Hazards and Aggregate Dynamics," NBER Working Papers 4090, National Bureau of Economic Research, Inc.
  12. repec:nbr:nberre:0126 is not listed on IDEAS
  13. Taylor, John B, 1980. "Aggregate Dynamics and Staggered Contracts," Journal of Political Economy, University of Chicago Press, vol. 88(1), pages 1-23, February.
  14. Rotemberg, Julio J, 1982. "Sticky Prices in the United States," Journal of Political Economy, University of Chicago Press, vol. 90(6), pages 1187-1211, December.
  15. Caballero, Ricardo J, 1994. "Small Sample Bias and Adjustment Costs," The Review of Economics and Statistics, MIT Press, vol. 76(1), pages 52-58, February.
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