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Search Frictions, Real Rigidities, and Inflation Dynamics

Authors


  • I am very grateful to Kosuke Aoki, Nobu Kiyotaki, Michael Krause, Jordi Gali, Chris Pissarides, Kevin Sheedy, Tommy Sveen, Francesco Zanetti, and anonymous referees for their comments and suggestions. The views expressed here are those of the author and do not necessarily represent the views of Banco de España.

Abstract

The literature on New Keynesian models with search frictions in the labor market commonly assumes that price setters are not actually subject to such frictions. Here, I propose a model where firms are subject both to infrequent price adjustment and search frictions. This interaction gives rise to real price rigidities, which have the effect of slowing down the adjustment of the price level to shocks. This has a number of consequences for equilibrium dynamics. First, inflation becomes less volatile and more persistent. More importantly, the model’s empirical performance improves along its labor market dimensions, such as the size of unemployment fluctuations and the relative volatility of the two margins of labor.

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