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Modelling nominal rigidities in general dynamic equilibrium framework

Le, Vo Phuong Mai 2008. Modelling nominal rigidities in general dynamic equilibrium framework. PhD Thesis, Cardiff University.

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Abstract

The widely-used "New Keynesian' model assumes that there is no price flexibility, but prices and wages are extremely "sticky'. In such a model, it is also usual to assume some scheme of lagged indexation which increases the stickiness of inflation. Theoretically, however, we have found that indexation not to lagged actual inflation but to lagged expected inflation (rational indexation) turns out to be the best way to carry out indexation. One major implication of applying this as the indexation formula is that the New Keynesian model behaves in a more 'classical' manner, with very little price stickiness, though still stickiness in real wages and in price mark-ups. Also, given the rational indexation scheme, the optimal monetary policy turns out to be price-level targeting, because such a rule would ensure price stability and minimise the distortions to relative prices due to price shocks. However, whether this socially optimal indexation scheme is feasible in practice is determined by a new empirical testing method suggested by Minford, Theodoridis and Meenagh (2007). From this test, we find that all models with a Calvo contracts framework with different indexation schemes are comprehensively rejected, including the case with theoretically optimal indexation, and so is a 'New Classical' model version, with flexible prices and wages and a one quarter information lag. There is no evidence that indexation of any sort existed. However, the New Classical model does not perform worse than the simple Calvo contract model, suggesting that when the model is improved sufficiently to pass this test, price rigidity will not necessarily feature in the specification.

Item Type: Thesis (PhD)
Status: Unpublished
Schools: Business (Including Economics)
Subjects: H Social Sciences > HB Economic Theory
ISBN: 9781303182358
Date of First Compliant Deposit: 30 March 2016
Last Modified: 16 Dec 2014 10:35
URI: http://orca-mwe.cf.ac.uk/id/eprint/55706

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