New Keynesian Price and Cost Dynamics: Theory and Evidence

Kurmann, Andre, Department of Economics, University of Virginia
Webb, Robert, McIntire School of Commerce, University of Virginia

The present dissertation consists of three chapters that focus on the development and empirical evaluation of New Keynesian price and cost models. In the first chapter, I quantify the uncertainty about a theoretical inflation series that is implied by a simple forward-looking New Keynesian pricing model derived from Calvo (1983). Among other things, the theoretical inflation series is conditional on (i) a reduced-form forecasting process for real marginal cost, and (ii) the assumed average degree of price fixity in the economy. For post-1960 U.S. data, I show that considerable uncertainty surrounds both of the two determinants and once the impact of this uncertainty is quantified, we do not know whether theoretical inflation tracks observed inflation very poorly or very well.
In the second chapter, I develop a Maximum Likelihood approach to estimating linearized Euler equations and apply it to an extended version of the Calvo model that contains a backward-looking inflation component. While the model is rejected for quarterly U.S. data, the results indicate that it may be salvaged if we impose fixed short-run relative capital stocks rather than flexible capital reallocation as in the original model.
Finally, the third chapter (joint with Jean-Pierre Danthine) considers a dynamic stochastic general equilibrium model of the business cycle with sticky prices and real wage rigidities in the form of partial gift exchange efficiency wages. The introduction of the real wage rigidity substantially improves the performance of the model both in terms of implied labor market dynamics and internal amplification to monetary shocks. We thus conclude that the proposed partial gift exchange extension constitutes a promising platform for an enriched New Keynesian synthesis.

PHD (Doctor of Philosophy)
All rights reserved (no additional license for public reuse)
Issued Date: