The author thanks the late Palle Andersen, Mike Dotsey, Craig Burnside, Fabio Ghironi, Kevin Huang, Andy Levin, two anonymous referees, the editor (Paul Evans), and seminar participants at the Bank of Canada, the B.I.S., and the Federal Reserve Board and conference participants at the Federal Reserve System Committee on Macroeconomics and the CIREQ Conference on Multi-Sector Models for helpful comments. Fan Ding and Jon Petersen provided excellent Research Assistance. This paper does not necessarily represent the views of the Federal Reserve System or the Federal Reserve Bank of Richmond.
The Optimal Rate of Inflation with Trending Relative Prices
Article first published online: 21 MAR 2011
© 2011 Federal Reserve Bank of Richmond
Journal of Money, Credit and Banking
Volume 43, Issue 2-3, pages 355–384, March-April 2011
How to Cite
WOLMAN, A. L. (2011), The Optimal Rate of Inflation with Trending Relative Prices. Journal of Money, Credit and Banking, 43: 355–384. doi: 10.1111/j.1538-4616.2010.00377.x
- Issue published online: 21 MAR 2011
- Article first published online: 21 MAR 2011
- Received October 2, 2009; and accepted in revised form September 8, 2010.
- relative price trends;
- sticky prices;
- optimal rate of inflation;
- state-dependent pricing;
- optimal monetary policy
Relative price trends mean that monetary policy cannot stabilize the nominal prices of all consumption categories. If prices are sticky, monetary policy must then trade off distortions within different categories; more weight should be placed on stabilizing prices for which adjustment entails greater distortions. With exogenous price stickiness, a simple model calibrated to U.S. data implies that slight deflation is optimal even absent money-demand considerations. If price stickiness is endogenous (because of fixed costs of adjustment), small inflation or small deflation can be optimal, depending on whether demand conditions or price adjustment costs vary across sectors.