Is increased price flexibility stabilizing? Redux

Saroj Bhattarai, Gauti Eggertsson and Raphael Schoenle

No 540, Staff Reports from Federal Reserve Bank of New York

Abstract: We study the implications of increased price flexibility on aggregate output volatility in a dynamic stochastic general equilibrium (DSGE) model. First, using a simplified version of the model, we show analytically that the results depend on the shocks driving the economy and the systematic response of monetary policy to inflation: More flexible prices amplify the effect of demand shocks on output if interest rates do not respond strongly to inflation, while higher flexibility amplifies the effect of supply shocks on output if interest rates are very responsive to inflation. Next, we estimate a medium-scale DSGE model using post-WWII U.S. data and Bayesian methods and, conditional on the estimates of structural parameters and shocks, ask: Would the U.S. economy have been more or less stable had prices been more flexible than historically? Our main finding is that increased price flexibility would have been destabilizing for output and employment.

Keywords: Equilibrium (Economics); Prices; Inflation (Finance); Monetary policy; Productivity (search for similar items in EconPapers)
Date: 2012
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://www.newyorkfed.org/medialibrary/media/research/staff_reports/sr540.html (text/html)
https://www.newyorkfed.org/medialibrary/media/research/staff_reports/sr540.pdf (application/pdf)

Related works:
Journal Article: Is increased price flexibility stabilizing? Redux (2018)
Working Paper: Is Increased Price Flexibility Stabilizing? Redux (2014)
Working Paper: Is Increased Price Flexibility Stabilizing? Redux (2012)
Working Paper: Is Increased Price Flexibility Stabilizing? Redux (2012)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:fip:fednsr:540

Ordering information: This working paper can be ordered from

Access Statistics for this paper

More papers in Staff Reports from Federal Reserve Bank of New York Contact information at EDIRC.
Bibliographic data for series maintained by Gabriella Bucciarelli ().