Sticky Prices

5 Key excerpts on "Sticky Prices"

• 

  eBook - ePub

  Uncertainty, Macroeconomic Stability and the Welfare State

  • Sven Larson(Author)
  • 2019(Publication Date)
  • Taylor & Francis

    (Publisher)

  This don’t-mess-with-success principle does, among other things, mean the repetition of a price. If a buyer and a seller have successfully exchanged on a Monday it would be only logical that they repeated all the premises of that exchange on a Tuesday, unless they had an explicit reason not to. If the price was a loose end in their expected Tuesday exchange it would only invoke uncertainty in both parties — uncertainty that would proliferate into other exchanges where the buyer and seller are involved. A central point in this chapter is that in their struggle to manage in a world of uncertainty, consumers and entrepreneurs prefer Sticky Prices to flexible prices. This preference will be a crucial element in our development of a model of macroeconomic stability. A key point we will make is that Sticky Prices interact with the confidence of economic agents to inspire a higher propensity to consume if interaction sets a positive spiral in motion — successful uncertainty management leads to more spending per unit of income and time — or a lower propensity to consume if the spiral turns negative.

  The statement that Sticky Prices are better — in the eyes of economic agents — than flexible prices is by no means original to this thesis. It is a general trend in results of recent empirical studies that economic agents exhibit a preference for Sticky Prices over flexible prices, not by explicitly stating that they are better off when prices remain in place, but by showing that agents normally use fixed, not flexible prices. It is reasonable to read such actual behavior as an expression of a sticky price preference, although theory does not always make this interpretation. So far, theory has given three different responses to the challenges of empirical studies — a fourth is added here. The first of these responses is the most reluctant to the preference interpretation: it refers to a sticky price regime as making an inferior contribution to employment and production as compared to flexible prices Barro and Grossman 1971; Lindbeck and Snower 1988). According to this response, obviously price stickiness — whether on product or labor markets — ought to be done away with.

  A second response provides some theoretical support for the empirical findings, but the formal model is absent (Okun 1981; Hicks 1989). It is implicitly suggested that modelling would lead to formal proof that it is better for an economy to operate with Sticky Prices than with flexible prices.

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  Handbook of Monetary Economics vols 3A+3B Set

  • Benjamin M. Friedman, Michael Woodford(Authors)
  • 2010(Publication Date)
  • North Holland

    (Publisher)

  Guimaraes and Sheedy (2008) .

  Table 14 Model features and the facts

  	Consistent features	Inconsistent features
  Half of prices change only a few times a year	Menu costs; sticky input prices	Price indexation; convex adjustment costs
  Temporary price changes are common	Sticky set; price discrimination	Menu costs with flexible marginal cost
  Frequency differs persistently across goods	Menu costs; sticky information	Exogenous frequency of price changes
  Price changes are large on average	Big menu costs; rational inattention	Small idiosyncratic shocks with strong complementarities
  Many price changes are small	Sticky information; sticky path	Large menu costs for changing each individual price
  Relative price changes are transitory	Transitory idiosyncratic shocks	Strong micro complementarities
  Price changes are not well synchronized	Big idiosyncratic shocks	Small idiosyncratic shocks with strong complementarities
  Old prices do not change by bigger amounts	Menu costs; lumpy shocks	Time-dependent pricing with persistent shocks

  Probably the most robust fact across all micro pricing studies is that goods persistently differ in their frequency of price changes. The variation is far from random, as raw goods (fresh produce, energy) change price more frequently than do services in country after country. Thus price flexibility appears to respond to economic fundamentals (e.g., the average size of sectoral shocks and the trend rate of inflation). And, in the United States at least, more cyclical categories exhibit more consumer price flexibility.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Intermediate Macroeconomics

  • Robert J. Barro; Angus C. Chu; Guido Cozzi, Robert Barro, Angus Chu, Guido Cozzi(Authors)
  • 2017(Publication Date)
  • Cengage Learning EMEA

    (Publisher)

  Thus, this evidence suggests that the New Keynesian model, although useful, might not explain a large part of economic fluctuations. Evidence on the stickiness of prices A study by Luis Álvarez et al. (2006) quantified the stickiness in prices of goods and services contained in the consumer price index (CPI) and the producer price index (PPI) in the Eurozone. The flexibility of prices varies greatly, depending on the type of good or service. For prices contained in the CPI, prices change most frequently in energy and unprocessed food, and least frequently in services. For prices contained in the PPI, prices change most frequently in energy and food, and least frequently in capital goods. Overall, firms in the Eurozone change their prices about once a year on average. An earlier study by Mark Bils and Peter Klenow (2004) quantified the sticki -ness in prices of goods and services contained in the consumer price index (CPI) in the United States and found a much shorter median duration of prices of about 4–5 months. 8 By the Numbers 8 Earlier studies of price stickiness include Dennis Carlton (1986), Steve Cecchetti (1986), Anil Kashyap (1995) and Alan Blinder et al . (1998). These studies concluded that price stickiness was more important than found by Bils and Klenow (2004). One reason is that the earlier studies looked only at a few products, such as newspapers and items listed in catalogues, which happen to have above-average price stickiness. Copyright 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-300 321 Chapter 17 Money and business cycles II: Sticky Prices and nominal wageuni00A0rates We can also use our analysis of price adjustment to see what the New Keynesian model predicts for the cyclical behaviour of the price level, P . When the nominal quantity of money, M , rose, P responded relatively little at first. Therefore, the expansion of real GDP, Y , was accompanied by little change in P .

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  Intermediate Microeconomics

  Neoclassical and Factually-oriented Models

  • Lester O. Bumas(Author)
  • 2015(Publication Date)
  • Routledge

    (Publisher)

  Several supply characteristics have been hypothesized as related to price stickiness. (1) The negative-sloped average cost function discourages price changes with demand. An increase in demand increases the profit per unit of production and the number of units sold. With profits increasing well there is little need for a price increase. If demand falls, the cost per unit increases and this discourages decreasing price. (2) The more quickly the rate of production can be changed, the greater is price stickiness: quantity changes obviate the need for price changes. Manufacturers can quickly change the rate of production and manufacturing prices tend to be sticky. An increase in demand brings forth more production, a decrease less production. But farmers cannot quickly change production and shortages and surpluses are equilibrated by increasing and decreasing prices. (3) Perishables tend to have more flexible prices as compared to products which can be stored.

  The Structure of an Industry

  A common claim is that the higher the concentration of production in an industry, the stickier are prices. On one hand, highly concentrated markets tend to have an established price leader and followers and this should solve the price change coordination problem—the fifth most important bar to price changes in Bunder’s study. On the other hand, there seems to be little evidence supporting the industry concentration hypothesis independent of the product supply and demand characteristics mentioned above.

  Summary on Price-Setting

  Demand-oriented price-setting tends to take place in circumstances in which costs are unknown, irrelevant, or difficult to identify. The cost of producing land is unknown. The cost of a house thirty years ago is irrelevant to its current value. The cost of producing a sheep may be known but the cost of producing its coat, hide, and various cuts of meat are not—but they all require pricing. In these circumstances, demand-oriented pricing takes place. Demand is also frequently an important component of what becomes cost-based pricing. This occurs when a firm first considers what buyers are willing to pay for a product, then attempts to constrain costs so that when added up they are near that price, and finally bases price on those costs.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Monetary Policy Rules

  • John B. Taylor(Author)
  • 2007(Publication Date)
  • University of Chicago Press

    (Publisher)

  It is a general feature of sticky price models that persistent increases in the money supply generate persistent increases in expected infla- tion, and usually the nominal interest rate. This result is troubling if one be- lieves that monetary policy is appropriately modeled by an exogenous money growth rate, as it conflicts with the conventional wisdom that expansionary monetary policy involves a decrease in the nominal interest rate. We will see below that if policy is modeled as an interest rate feedback rule, then expan- sionary (contractionary) shocks do generate decreases (increases) in the nomi- nal interest rate. 18. In contrast to the preference specification used here, the more standard form (In c - 6nY) implies an elasticity of real marginal cost with respect to output that is at least unity, due to the income effect on labor supply. 19. See Dotsey et al. (1997) for an analysis along these lines. 367 What Should the Monetary Authority Do When Prices Are Sticky? -1.5 -2.5 -3.5 -4.5 -5.5 -6.5 - 0.1 0 -0.1 -0.2 -0.3 -0.4 a. output .................................... 0 2 4 6 8 10 0.04 0.03 0.02 0.01 0 -0.01 -0.02 -0.03 -0.04 c. markup (0) and real wage (x) .............. 0 2 4 6 8 10 b. price level (0) & money (x) 0.5 ................................... -0.5 4 I K -7.5 - 100 0 -100 -200 -300 -400 -500 0 2 4 6 8 10 d. inflation (0) and nominal rate (x) I 0 2 4 6 8 10 Fig. 8.5 Note: For axis units, see note to fig. 8.4. Unanticipated, permanent decrease in money growth Effects oja Permanent Decrease in Injation Figure 8.5 contains impulse response functions for an unanticipated perma- nent decrease in the money growth rate. Aside from the sign difference, these responses look similar to figure 8.4, confirming the standard notion that disin- flation is costly with Sticky Prices. However, it is important to stress two fea- tures of this policy shock. First, the magnitude of the temporary aggregate contraction is smaller, about half as large as in figure 8.4.

  Sign up to read

  Learn more about book