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State-Dependent Pricing and the Dynamics of Money and Output

Andrew Caplin and John Leahy
The Quarterly Journal of Economics
Vol. 106, No. 3 (Aug., 1991), pp. 683-708
Published by: Oxford University Press
Stable URL: http://www.jstor.org/stable/2937923
Page Count: 26
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State-Dependent Pricing and the Dynamics of Money and Output
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Abstract

Standard macroeconomic models of price stickiness assume that each firm leaves its price unchanged for a fixed amount of time. We present an alternative model in which the pricing decision depends on the state of the economy. We find a method of aggregating individual price changes that allows a simple characterization of macroeconomic variables. The model produces a positive money-output correlation and an empirical Phillips curve. In addition, the impact of monetary shocks depends crucially on the current level of output, which points to a natural connection between state-dependent microeconomics and state-dependent macroeconomics.

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