HT - 02. New Keynesian Model

Question 1

Taylor (1999)

Answer 1

– Average price adjustment is yearly

Question 2

Bils and Klenow (2004)

Answer 2

– median duration 4-6 months

Question 3

Nakamura and Steinsson (2008)

Answer 3

– 8 – 11 months

Question 4

Dhyne et. Al (2006)

Answer 4

– similar in Europe 8-11 months

Question 5

Bewley (1999) and Druant et al (2012)

Answer 5

low frequency wage adjustments one year or longer

Question 6

Eichenbaum, Jaimovich and Rebelo (2011)

Answer 6

– sales are temporary, regular prices sticky approx.. 1 year.

Question 7

Christiano, Eichembaum and Evans (1999)
Sims (1992)
Romer and Romer (2004)
Galí (1992)
Peersman and Smets (2003) (Europe)

Answer 7

Evidence of MP non-neutrality (5 papers)

Question 8

Goodfriend and King (1998)

Answer 8

MP can have real effects in a modified NKM due to gradual price adjustment

• Model suggests little long run trade-off inflation vs. real activity
• Gains from eliminating inflation due to increased transaction efficiency and reduced relative price distortions
• CB credibility is key to understanding MP role
• Demand determined  AD influences via markup  Act as distortionary tax on activity

Question 9

Key Topic Summary

Answer 9

• Need to introduce some nominal rigidities to better reflect the real world  output becomes demand determined and MP can affect HH spending. Calibrate model to match average price duration 4 quarters
• Demand determined: influence of AD on employment and output works by shrinking or increasing the markup  acts like a distortionary tax on economic activity
• Consumption, investment, output and employment now all respond…but still adjust in LR
• NKM economy response is generally inefficient (market power lowers output) (but setting a subsidy to eliminate monopolistic distortions can make it efficient), has room for welfare enhancing MP due to SR non-neutrality

Question 10

Calvo (1982)

Answer 10

staggered price setting

Question 11

Rotemberg (1982)

Answer 11

quadratic cost of changing prices due to customer relations

Question 12

• Key variables:

Answer 12

o Output gap: log deviation between output and natural output – equilibrium in the absence of nominal rigidities…natural output independent of MP
o Natural interest rate: equilibrium interest rate in the absence of nominal rigidities