quantifying the uncertainty about the fit of a new keynesian pricing model abstract recent studies by gali and gertler 1999 inflation dynamics a structural econometric analysis journal of monetary economics 44 195 222 and sbordone 2002 prices and unit labor costs testing models of pricing journal of monetary economics 49 265 292 conclude that a theoretical inflation series implied by a forward looking new keynesian pricing equation fits post 1960 u s inflation closely their theoretical inflation series is conditional on i a reduced form forecasting process for real marginal cost and ii the calibration of the pricing equation the present paper shows that both of these determinants are surrounded by considerable uncertainty when quantifying the impact of this uncertainty on theoretical inflation we can no longer say whether the forward looking pricing equation explains observed inflation dynamics very well or very poorly

empirical evidence on inflation expectations in the new keynesian phillips curve abstract we review the main identification strategies and empirical evidence on the role of expectations in the new keynesian phillips curve paying particular attention to the issue of weak identi

elusive persistence wage and price rigidities the new keynesian phillips curve and inflation dynamics abstract we review the main new keynesian inflation equations that have arisen as a result of aggregation from individual firms price rigidities we find that on the whole they cannot account for inflation persistence a key feature of the empirical dynamics of inflation and with important policy implications the only exceptions seem to be when indexation is allowed in price setting or when price stickiness is combined with wage rigidity and staggering

testing for indeterminacy an application to u s monetary policy reply this paper considers a prototypical new keynesian model in which the equilibrium is undetermined if monetary policy is passive the likelihood based estimation of dynamic equilibrium models is extended to allow for indeterminacies and sunspot fluctuations we construct posterior weights for the determinacy and indeterminacy region of the parameter space and estimates for the propagation of fundamental and sunspot shocks according to the estimated model u s monetary policy post 1982 is consistent with determinacy whereas the pre volcker policy is not we find that before 1979 indeterminacy substantially altered the propagation of shocks

gmm estimation of the new phillips curve abstract this paper applies test statistics developed by stock and wright econometrica 68 2000 1055 to examine the two specifications of the new keynesian phillips curve in gali and gertler journal of monetary economics 44 1999 195 the new test statistics demonstrate the inadequacy of conventional gmm methodology by indicating two features that are neglected by gali and gertler observational equivalence in the baseline model and weak identification in the hybrid model

nominal price rigidity money supply endogeneity and business cycles abstract this paper investigates the ability of nominal price rigidity to explain the co movement of inflation with the cyclical component of output observed in the post war u s data a dynamic general equilibrium model is constructed with the introduction of monopolistic competition and nominal price rigidity in a standard real business cycle model allowing for an endogenous money supply rule it is then demonstrated that sticky price models can explain the observed associations between movements in inflation and output much better than flexible price models this result depends little on whether money supply is assumed to be endogenous or not

the new keynesian phillips curve revisited abstract several authors have questioned the evidence claimed by gali and gertler 1999 and gali et al 2001 that a hybrid version of the new keynesian phillips curve approximates european and us inflation dynamics quite well we re examine the evidence using the vector autoregressive framework and likelihood based methods paying particular attention to the stationary and nonstationary and possibly cointegrated nature of variables involved our results show that the exact as well as the inexact form of the hybrid nkpc are clearly at odds with the european data on the other hand gali and gertler 1999 finding that the inexact hybrid nkpc is a good first approximation to the us inflation dynamics seems less at odds with the data however the assumption of the model that the stochastic term forms a sequence of innovations may be problematic as we find indication of autocorrelation in the estimated residuals the exact form of the hybrid nkpc is firmly rejected by the us data

the new keynesian phillips curve from sticky inflation to sticky prices the new keynesian phillips curve nkpc model of inflation dynamics based on forward looking expectations is of great theoretical significance in monetary policy analysis empirical studies however often find that backward looking inflation inertia dominates the dynamics of the short run aggregate supply curve this inconsistency is examined by investigating multiple structural changes in the nkpc for the u s between 1960 and 2005 employing both inflation expectations survey data and a rational expectations approximation we find that forward looking behavior plays a smaller role during the high and volatile inflation regime to 1981 than in the subsequent period of moderate inflation providing empirical support for sticky price models over the last two decades a break in the intercept of the nkpc is also identified around 2001 and this may be associated with u s monetary policy in that period

limited information estimation and evaluation of dsge models we advance the proposition that dynamic stochastic general equilibrium dsge models should not only be estimated and evaluated with full information methods these require that the complete system of equations be specified properly some limited information analysis which focuses upon specific equations is therefore likely to be a useful complement to full system analysis two major problems occur when implementing limited information methods these are the presence of forward looking expectations in the system as well as unobservable non stationary variables we present methods for dealing with both of these difficulties and illustrate the interaction between full and limited information methods using a well known model copyright 2009 john wiley sons ltd

monetary policy rules and macroeconomic stability some new evidence in a seminal paper richard clarida jordi gall and mark gertler 2000 studied the implica tions of monetary policy for macroeconomic fluctuations using a prototypical forward looking sticky price model of the monetary transmission mechanism they proposed simple forward looking equations for the reaction function of monetary policy to deviations of inflation and output from their implicit targets they estimated these equations over sample periods before and after paul volcker became chairman of the fed they found that the policy rate did not react sufficiently strongly to expected deviations of inflation from target prior to volcker thus violat ing the taylor principle and opening up the possibility of sunspot fluctuations induced by self fulfilling expectations in contrast policy over the volcker greenspan era was found to satisfy the taylor principle and this was seen as an important factor contributing to the conquest of us inflation 1

changes at the top a cross country examination over the 20th century of the rise and fall in rank of the top cities in national urban hierarchies the paper documents the evolution of rank orders for cities at the top of national urban hierarchies top 10 cities where possible ranks for the year 2000 are compared with 1950 for 74 nations and with 1900 for 52 nations covering 375 and 288 cities respectively rank correlations with the year 2000 are calculated for both years the rank order of cities in europe shows significantly less variation over time than those for the new world and developing nations consistent with the view that urban hierarchies harden as they mature changes in rank at the very top rank 1 are rare where they occur such changes can often be traced to political events that alter the direction of trade or the city s role as central place the results provide evidence both for and against locational fundamentals and cumulative causation arguments the entrenched advantages of the first big cities to emerge are undeniable but fundamentals can be undermined by political events and by technological change

is inflation sticky abstract new keynesian sticky price models predict that monetary policy can affect real variables however they also predict that inflation can be reduced without depressing output or employment in fact bringing down inflation is costly presenting a challenge to the new keynesian model two departures from the new keynesian model predict costly disinflation one assumes sticky inflation rather than sticky prices while the other assumes less than perfectly rational expectations taking into account information from surveys of inflation expectations i find the evidence suggests that inflation is not sticky and that inflation expectations are less than perfectly rational

the un importance of forward looking behavior in price specifications the seminal work of edmund s phelps 1978 john b taylor 1980 and guillermo a calvo 1983 developed forward looking models of price determination that imparted inertia to the price level these models incorporate expectations of future prices and excess demand by imposing constraints typically lag lead symmetry constraints that force future variables to enter the specification in this paper the author tests the empirical significance of future prices in specifications like those of taylor he finds that expectations of future prices are empirically unimportant in explaining price and inflation behavior however the dynamics of a model that includes a purely backward looking inflation specification differ substantially and not altogether pleasingly from those with a forward looking specification copyright 1997 by ohio state university press

an open economy new keynesian phillips curve for the u k abstract we estimate a pricing equation or new keynesian phillips curve nkpc obtained from a structural dynamic model of price setting based on rotemberg 1982 sticky prices in the united states journal of political economy 90 6 1187 1211 and extended to capture employment adjustment costs and the openness of the united kingdom this model nests the baseline gali and gertler 1999 inflation dynamics a structural econometric analysis quarterly journal of economics 110 127 159 and sbordone 2002 prices and unit labor costs a new test of price stickiness journal of monetary economics 49 265 292 relationship between inflation and marginal cost in the limiting case of no employment adjustment costs no impact of relative prices of imported inputs on real marginal cost and a constant equilibrium markup our findings indicate that each of our modifications to the baseline nkpc model is important for u k data so that inflation in the u k is explained both by changes in employment and by changes in real import prices in general and real oil prices in particular external competitive pressures also seem to affect u k inflation via their impact on the equilibrium price markup of domestic firms

firm specific capital inflation persistence and the sources of business cycles this paper estimates a firm specific capital dsge model firm specific capital improves the fit of dsge models to the data as shown by a large increase in the value of the log marginal likelihood this results from a lower implied estimate of the nkpc slope for a given degree of price stickiness firm specific capital leads to a better fit to the volatilities of macro variables and a greater persistence of inflation it is also shown that firm specific capital reduces the dependence of new keynesian models on price markup shocks and that it increases the persistence of output to monetary shocks

intrinsic inflation persistence empirical evidence suggests that inflation determination is not purely forward looking but models of price setting have struggled to rationalize this finding without directly assuming backward looking pricing rules for firms this paper shows that intrinsic inflation persistence can be explained with no deviation from optimizing forward looking behaviour if prices that have remained fixed for longer are more likely to be changed than those set recently a relationship between the probability of price adjustment and the duration of a price spell is shown to imply a simple hybrid phillips curve including lagged and expected inflation which is estimated using macroeconomic data

inflation persistence and optimal monetary policy in the euro area in this paper we present an optimizing agent model for the euro area to emphasize how the existence of heterogeneity in inflation persistence across regions matters for the design of monetary policy we find supporting evidence of the existence of such a heterogeneity in inflation dynamics across euro area countries in particular based on the estimation of new keynesian phillips curves for five major countries of the euro area we find that inflation in germany has a dominant forward looking component while in the other group of countries inflation show a significant inertial backward looking behavior under this circumstance we study the welfare implications of four monetary policy rules following terms of trade shocks fully optimal optimal inflation targeting hicp targeting and output gap stabilization

estimating the frequency of price re optimization in calvo style models abstract this paper assesses the empirical performance calvo style models of price re optimization we first show that versions of these models in which firms update non re optimized prices to lagged inflation account well for the statistical behavior of post war u s inflation rates we then investigate whether these models imply plausible degrees of inertia in price setting behavior by firms they do but only if we depart from two standard auxiliary assumptions monopolistically competitive firms face a constant elasticity of demand and capital is homogeneous and can be instantaneously reallocated after a shock we develop a version of the model in which these assumptions are relaxed and show that it is consistent with the view that firms re optimize prices on average once every two quarters

the history of the phillips curve consensus and bifurcation while the early history of the phillips curve up to 1975 is well known less well understood is the post 1975 fork in the road the left fork developed a theory of policy responses to supply shocks in the context of price stickiness in the non shocked sector its econometric implementation interacts shocks with backward looking inertia the right fork approach emphasizes forward looking expectations that can jump in response to anticipated policy changes the left fork approach is better suited to explaining the postwar us inflation process while the right fork approach is essential for understanding behaviour in economies with unstable macroeconomic environments the history of the phillips curve pc has evolved in two phases before and after 1975 with a widespread consensus about the pre 1975 evolution which is well understood bifurcation begins in 1975 when the pc literature split down two forks of the road with little communication or interaction between the two forks the major contribution of this paper and hence the source of bifurcation in its subtitle is to examine contrast and test the contributions of the two post 1975 forks the pre 1975 history is straightforward and is covered in section i the initial discovery of the negative inflation unemployment relation by phillips popularized by samuelson and solow was followed by a brief period in which policy makers assumed that they could exploit the trade off to reduce unemployment at a small cost of additional inflation then the natural rate revolution of friedman phelps and lucas overturned the policy exploitable trade off in favour of long run monetary neutrality those who had implemented the econometric version of the trade off pc in the 1960s reeled in disbelief when sargent demonstrated the logical failure of their test of neutrality and finally were condemned to the wreckage of keynesian economics by lucas and sargent following the twist of the inflation unemployment correlation from negative in the 1960s to positive in the 1970s the architects of neutrality and the opponents of the keynesian trade off emerged triumphant with two major caveats that their own models based on information barriers were unconvincing and that their core result that business cycles were driven by monetary or price surprises floundered without supporting evidence after 1975 the evolution of the pc literature split in two directions each of which has largely failed to recognize the other s contributions section ii reviews the left fork of the road the revival of the pc trade off in a coherent and integrated dynamic aggregate supply and demand framework that emerged in the late 1970s in econometric tests in theoretical contributions and in intermediate macro textbooks this approach which i have called mainstream is resolutely keynesian because the inflation rate is dominated by persistence and inertia in the form of long lags on past inflation an important difference between the mainstream approach and other post 1975 developments is that the role of past inflation is not limited to the formation of expectations but also includes a pure persistence effect due to fixed duration wage and price contracts and lags between

new keynesian economics and the phillips curve models with sticky prices are an important part of new keynesian economics the author shows that several of the new keynesian models imply a formulation that is similar to the expectations augmented phillips curve of milton friedman and edmund phelps he then presents new estimates of the new keynesian phillips curve the author uses two proxies for price expectations survey based measures and an econometric based measure originally developed by bennett mccallum 1976 overall the results are consistent with the model but the survey based results are more precise suggesting that the surveys may be better measures of actual expectations copyright 1995 by ohio state university press

identification issues in limited information bayesian analysis of structural macroeconomic models the likelihood of the parameters in structural macroeconomic models typically has non identification regions over which it is constant when sufficiently diffuse priors are used the posterior piles up in such non identification regions use of informative priors can lead to the opposite so both can generate spurious inference we propose priors posteriors on the structural parameters that are implied by priors posteriors on the parameters of an embedding reduced form model an example of such a prior is the jeffreys prior we use it to conduct bayesian limited information inference on the new keynesian phillips curve with a var reduced form for us data

is the new keynesian phillips curve flat abstract this paper provides monte carlo evidence that gmm estimates of the new keynesian phillips curve are biased towards finding too much price rigidity if cost push shocks are auto correlated this result may reconcile gmm estimates with the microevidence on price rigidities

trend inflation indexation and inflation persistence in the new keynesian phillips curve purely forward looking versions of the new keynesian phillips curve nkpc generate too little inflation persistence some authors add ad hoc backward looking terms to address this shortcoming we hypothesize that inflation per sistence results mainly from variation in the long run trend component of inflation which we attribute to shifts in monetary policy we derive a version of the nkpc that incorporates a time varying inflation trend and examine whether it explains the dynamics of inflation when drift in trend inflation is taken into account a purely forward looking version of the model fits the data well and there is no need for backward looking components jel e12 e31 e52 in this paper we consider the extent to which guillermo calvo s 1983 model of nominal price rigidities can explain inflation dynamics without relying on arbitrary backward looking terms in its baseline formulation the calvo model leads to a purely forward looking new keynesian

expectation horizon and the phillips curve the solution to an empirical puzzle estimates of the slope of the phillips curve reported in the literature cover a range from roughly 0 6 to zero depending on specification forward looking specifications favored by theory produce the smallest slope estimates this paper addresses this puzzle by studying the bivariate process of inflation and unemployment in a fairly general unobserved components framework allowing for stochastic trends and related cycles analysis reveals that the slope of the implied phillips curve will depend critically on the horizon of the forward looking inflation expectation provided the cyclical component of unemployment is highly persistent empirical analysis results show that is the case suggesting that the choice of expectation horizon generally set at one quarter in the new keynesian literature may play an important role in this debate copyright 2007 john wiley sons ltd

new tests of the new keynesian phillips curve abstract lagged dependent variables typically play an important role in empirical models of inflation do these lags reflect backward looking inflation expectations or do they proxy for rational forward looking expectations as in the new keynesian phillips curve gali and gertler 1999 inflation dynamics a structural econometric analysis journal of monetary economics 44 195 222 attempt to answer this question using gmm to estimate specifications incorporating both lagged and future inflation they report small coefficients on lagged inflation and conclude that the new keynesian model provides a good first approximation to inflation dynamics we show that these tests have low power against alternative backward looking specifications and demonstrate that their results are also consistent with a backward looking phillips curve using an alternative approach we find that the new keynesian pricing model cannot explain the importance of lagged inflation in standard inflation regressions and find that forward looking terms play a very limited role in explaining inflation dynamics

inflation dynamics and subjective expectations in the united states i introduction this paper analyzes the ability of sticky price models to explain the dynamics of u s inflation when using survey data as proxies for inflation expectations testing sticky price models with survey expectations is attractive since to the extent that survey data correctly capture agents expectations they allow to disregard issues related to the specification of agents expectations functions one neither has to impose untested orthogonality restrictions as required when estimating under the assumption of rational expectations nor has to make restrictive assumptions about the precise form of nonrationality present in agents forecast functions this allows to focus on the question whether the economic models under consideration are correctly specified previous tests of sticky price models performed under the assumption that agents hold rational expectations have generated mixed results prominently fuhrer and moore 1995 have reported that sticky price models do not generate sufficient stickiness for inflation when the output gap is used as a measure of real marginal costs recent evidence however has shown that the empirical performance depends crucially on how one measures real marginal costs the main determinant of inflation according to sticky price models for instance gall and gertler 1999 and sbordone 2002 show that sticky price models perform well once marginal costs are approximated by average unit labor costs 1 it makes an important difference whether sticky price models successfully explain inflation dynamics as a function of output behavior or they relate inflation dynamics to the behavior of unit labor costs given that the ultimate objective is a model explaining the joint behavior of output and inflation the latter case would require an additional empirically plausible theory linking the dynamics of unit labor costs to the behavior of output this paper studies whether the currently popular new keynesian phillips curve nkpc which can be derived from calvo 1983 style sticky price models is able to explain a relationship between inflation on the one hand and output or unit labor costs on the other hand thus we let the data speak whether a theory linking output to costs is warranted once expectations are approximated by data reported in the survey of professional forecasters our main finding is that the nkpc performs equally well with both measures of marginal costs output and unit labor costs whatever measure is used the estimate of the quarterly discount factor is close to one and the point estimate of the degree of price stickiness implies that firms reset their prices roughly every five quarters on average these results suggest that potential nonrationalities in expectations as they show up in surveys have biased previous estimates using output as a measure for marginal costs quite surprisingly the same nonrationalities do not seem to play a role when using unit labor costs here our estimates confirm the results obtained by gall and gertler 1999 and sbordone 2002 who assumed rational expectations we show that the reason for this finding is that approximating the agents information set using the unit labor cost variable rests on more solid grounds than approximating it using the output variable in particular the survey data suggest that the hypothesis of rational expectations implies a too high correlation between lagged output and future inflation expectations we show that this causes the coefficient estimate for output to become negative contrary to what is implied by theory these results suggest that once one takes account of potentially nonrational expectations via survey expectations sticky price models are able to establish a close link between output dynamics and the behavior of inflation to assess the robustness of this finding we include into the price equation lags of various variables and test for their significance

var based estimation of euler equations with an application to new keynesian pricing abstract var based estimation of euler equations exploits cross equation restrictions that the theory imposes on a vector autoregressive var process for market expectations this paper shows that sargent s 1979 a note on maximum likelihood estimation of the rational expectations model of the term structure journal of monetary economics 5 133 143 original approach of imposing these restrictions on the endogenous variable of the euler equation i e computing the rational expectations solution implies multiple solutions and is therefore impracticable the paper shows that this identification problem can be circumvented by reverse engineering the cross equation restrictions on the forcing variable of the euler equation the proposed reverse engineering approach contrasts with the conventional approach in the literature that avoids the identification problem by constraining the system formed by the euler equation and the var process to yield a unique stable rational expectations equilibrium this uniqueness condition makes little economic sense because the var process is just a reduced form approximation of true market expectations and a simulation experiment shows that imposing uniqueness can lead to severe misspecification bias the severity of this misspecification bias is illustrated in practice with an application to gali and gertler s 1999 inflation dynamics a structural econometric analysis journal of monetary economics 44 195 222 hybrid new keynesian phillips curve

new phillips curve under alternative production technologies for canada the united states and the euro area abstract this paper shows that alternative production technologies imply two modifications to the new phillips curve npc a specific strategic complementarity parameter that affects the relationship between real marginal cost and inflation and a specific modification to the labour share measure of real marginal cost estimates of average duration of nominal price stickiness obtained conditional on the strategic complementarity parameter are substantially smaller and therefore more plausible relative to when this parameter is ignored modifications to the marginal cost measure alone have little effect on the npc estimates the empirical fit of the npc under alternative production technologies is similar

state dependent pricing and the general equilibrium dynamics of money and output economists have long suggested that nominal product prices are changed infrequently because of fixed costs in such a setting optimal price adjustment should depend on the state of the economy yet while widely discussed statedependent pricing has proved difficult to incorporate into macroeconomic models this paper develops a new tractable theoretical state dependent pricing framework we use it to study how optimal pricing depends on the persistence of monetary shocks the elasticities of labor supply and goods demand and the interest sensitivity of money demand