NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Heterogeneity and Output Fluctuations in a Dynamic Menu-Cost Economy

Ricardo J. Caballero, Eduardo M.R.A. Engel

NBER Working Paper No. 3729
Issued in June 1991
NBER Program(s):   EFG

When firms face menu costs, the relation between their output and money is highly nonlinear. At the aggregate level, however, this needs not be so. In this paper we study the dynamic behavior of a general equilibrium menu-cost economy where firms are heterogeneous in the shocks they perceive, and the demands and adjustment Costs they face. In this context we (i) generalize the Caplin and Spulber [1987] steady state monetary neutrality result; (ii) show that uniqueness of equilibria depends not only on the degree of strategic complementarities but also on the degree of dispersion of firms' positions in their price-cycle; (iii) characterize the path of output outside the steady state and show that as strategic complementarities become more important, expansions become longer and smoother than contractions; and (iv) show that the potential effectiveness of monetary policy is an increasing function of the distance of the economy from its steady state, but that an uninformed policy maker will have no effect on output on average.

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Document Object Identifier (DOI): 10.3386/w3729

Published: Review of Economic Studies, 60(1), January 1993, p. 95-120

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