In the post-World War II period, wage and price levels reacted much less
to business contractions than they did in earlier times. Inflation prevailed
and its persistence increased. The contractions themselves became relatively
short and mild. All these developments have some cornmon roots in the major
structural, institutional, and policy changes of the era.
This paper takes a look at the assumptions concerning wage and price
behavior in types of contemporary macroeconomic theories and their
implications for the analysis of the business cycle. The various hypotheses
of real and nominal "rigidities" are then related to each other and to
alternative theories of how markets clear.
Long-term stable wage and price arrangements or contracts have important
equilibrium aspects that are consistent with high degrees of competition; or,
to put it differently, there are good reasons for market clearing by nonprice
mechanisms. Further, imperfections of competition, information, and markets
make some stickiness of wages and prices inevitable. Changes in relative
prices and costs, productivity, and profitability play an important role in
the process of propagation of business cycles.
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