Malik, Hamza and Scarth, William (2005): Is Price Flexibility De-Stabilizing? A Reconsideration.
Download (86kB) | Preview
Using a New Neoclassical Synthesis model of monetary policy for a small open economy, this paper explores the impact of an increased degree of price flexibility on output volatility. Previous analysis of this question – based on the earlier generation of descriptive macro systems with model-consistent expectations – offered mixed conclusions, especially in an open economy context. We update that literature by reconsidering the issue within models that involve optimization-based behavioural equations. We find clear support for Keynes’ concern that a higher degree of price flexibility raises output volatility – but only under flexible exchange rates. We discuss the implications of our findings for current macro policy discussions in both European and other economies.
|Item Type:||MPRA Paper|
|Original Title:||Is Price Flexibility De-Stabilizing? A Reconsideration|
|Keywords:||price flexibility; exchange rate policy; monetary policy in an open economy|
|Subjects:||E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy
F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F41 - Open Economy Macroeconomics
|Depositing User:||Hamza Malik|
|Date Deposited:||14. Oct 2006|
|Last Modified:||15. Feb 2013 23:18|
Amato, J.D., and T. Laubach, (2003), “Rule-of-Thumb Behaviour and Monetary Policy”, European Economic Review 47, pp. 791-831.
Bank of Canada (2003) Price Adjustment and Monetary Policy – Conference Proceedings.
Calvo, G., (1983), “Staggered Prices in a Utility Maximizing Framework”, Journal of Monetary Economics, pp. 383-398.
Chadha, B., (1988), “Is Increased Price Inflexibility Stabilizing?” IMF Working Paper.
Christiano, L., M. Eichenbaum and C. Evans (2005), “Nominal Rigidities and the Dynamic Effects of a Shock to Monetary Policy”, Journal of Political Economy 113, pp.1 - 45.
Clarida, R., J. Gali, and M. Gertler, (2001), “Optimal Monetary Policy in Open versus Closed Economies: An Integrated Approach”, American Economic Review, Papers and Proceedings, pp. 248-252.
Delong, B., and L. Summers, (1986), “Is Increased Price Flexibility Stabilizing?, American Economic Review 76, pp. 1031 – 1044.
Devereux, M., (2000), “Monetary Policy, Exchange Rate Flexibility, and Exchange Rate Pass-through”, in Revisiting the Case for Flexible Exchange Rates, Proceedings of a conference held by the Bank of Canada, November.
Devereux, M, amd C. Engel, (2002), “Exchange Rate Pass-through, Exchange Rate Volatility, and Exchange Rate Disconnect”, Journal of Monetary Economics 49, pp.913-940.
Driskill, R., and S. Sheffrin, (1986), “Is Price Flexibility Destabilizing?” American Economic Review 76, pp. 802 – 807.
Estralla, A. and J. Fuhrer (2002), “Dynamic Inconsistencies: Counterfactual Implications of a Class of Rational Expectations Models”, American Economic Review, Vol. 92, No. 4, pp. 1013 – 1028.
Flemming, J.S., (1987), “Wage Flexibility and Employment Stability”, Oxford Economic Papers 39, pp. 161- 174.
Fuhrer, J.C., (1997), “Towards a Compact, Empirically Verified Rational Expectations Model for Monetary Policy Analysis”, Carnegie-Rochester Conference Series on Public Policy 47, pp. 197 – 230.
Fuhrer, J. (2000), “Habit Formation in Consumption and its Implications for Monetary Policy Models”, American Economic Review 90, pp. 367-390.
Gali, J., and M. Gertler, (1999), “Inflation Dynamics: A Structural Econometric Analysis”, Journal of Monetary Economics 44, pp. 195 – 222.
Howitt, P., (1986), “Wage Flexibility and Employment”, Eastern Economic Journal 12, pp. 237 – 242.
Jensen, H., (2002), “Targeting Nominal Income Growth or Inflation”, American Economic Review, Vol. 94, No. 4, pp. 928 – 956.
Keynes, J.M., (1936), General Theory of Employment, Interest and Money, McMillan, London.
King, S.R., (1988), “Is Increased Price Flexibility Stabilizing?: Comment”, American Economic Review 78, pp. 267 – 272.
King, R.G. (2000), “The New IS-LM Model: Language, Logic, and Limits”, Economic Quarterly, Federal Reserve Bank of Richmond, Vol. 86, No.3, pp. 45 – 103.
McCallum, B., and E. Nelson, (1999), “An Optimizing IS-LM Specification for Monetary Policy and Business Cycle Analysis”, Journal of Money, Credit and Banking, pp. 296-316.
McCallum, B., and E. Nelson, (2001), “Monetary Policy for an Open Economy: An Alternative Framework with Optimizing Agents and Sticky Prices”, Oxford Review of Economic Policy, Vol. 16, No. 4.
Myers, G., and W. Scarth, (1990), “Is Price Flexibility Destabilizing? Evidence for the Open Economy”, Journal of International Economics 28, pp. 349 – 363.
Nelson, E., (1998), “Sluggish Inflation and Optimizing Models of the Business Cycle”, Journal of Monetary Economics, Vol. 42, No. 2, pp. 303-322.
Sargent, T.J., and N. Wallace, (1976), “Rational Expectations and the Theory of Economic Policy”, Journal of Monetary Economics 2, pp. 169 – 183.
Scarth, W., (2003), “John Kuszczak’s Contributions to Economics,” the first annual John Kuszczak Memorial Lecture, in Price Adjustment and Monetary Policy, Bank of Canada.
Smets, F., and R. Wouters, (2003), “An Estimated Stochastic Dynamic General Equilibrium Model of the Euro Area”, Journal of the European Economic Association 1, pp. 1123 – 1175.
Walsh, C., (2003a), Monetary Theory and Policy, The MIT Press.
Walsh, Carl (2003b), “Speed Limit Policies: The Output Gap and Optimal Monetary Policy”, American Economic Review 93(1), March, pp. 265 – 278.