Hashmat Khan

The Phillips Curve Under State-dependent Pricing

This paper is related to a large recent literature studying the Phillips curve in sticky-price equilibrium models. It differs in allowing for the degree of price stickiness to be determined endogenously. A closed-form solution for short-term inflation is derived from the dynamic stochastic general equilibrium (DSGE) model with state-dependent pricing originally developed by Dotsey, King and Wolman. This generalised Phillips curve encompasses the New Keynesian Phillips curve (NKPC) based on Calvo-type price-setting as a special case. It describes current inflation as a function of lagged inflation, expected future inflation, and current and expected future real marginal costs. The paper demonstrates that inflation dynamics generated by the model for a broad class of time and state-dependent price-setting behaviours are well approximated by the popular hybrid NKPC (with one lag of inflation) in a low-inflation environment. This provides an explanation of why the hybrid NKPC performs well in describing inflation dynamics across industrial countries. It implies, however, that the reduced-form coefficients of the hybrid NKPC may not have a structural interpretation.

Endogenous Price Stickiness, Trend Inflation, and the New Keynesian Phillips Curve

For standard calibration, this paper shows that the optimal price, in a model with Calvo form of price stickiness and strategic complementarities, is only defined for annualised trend inflation rates of under 5.5%. This critical inflation rate is below the average inflation rate over recent decades. Furthermore, over the range for which the optimal price is defined, the slope of the New Keynesian Phillips curve generated by this model is decreasing in trend inflation. That contradicts the stylised fact that Phillips curves are flatter in low-inflation environments. Substituting endogenous price stickiness for the Calvo form of time-dependent pricing can help avoid these implications.

Competitiveness, Inflation, and Monetary Policy

This paper examines the way in which structural changes in the level of steady-state competitiveness and the trend rate of inflation affect inflation responses to monetary policy shocks, in scenarios chosen to capture broadly the conditions of the UK economy in the early 1990s and more recently. Cyclical changes in competitiveness are also considered, since it is not clear empirically whether changes in competitiveness have been predominantly structural or cyclical. A model based on work by Woodford is used, allowing for positive trend inflation and cyclical variations in competitiveness in a tractable manner. This extension enables the separate quantification of the impact of differences in the steady-state level of and cyclical changes in competitiveness on inflation in the short term, in high and low inflation environments. The paper quantifies the extent to which procyclical (countercyclical) changes in competitiveness dampen (amplify) the impulse responses of inflation to a given monetary policy shock. In the calibration used, the inflation response to monetary policy shocks in a low inflation/high competitiveness environment is dampened compared with a high inflation/low competitiveness environment. By contrast, inflation responses to monetary policy shocks in a low inflation/low competitiveness environment are similar to those in a high inflation/high competitiveness environment.

Investment Adjustment Costs: Evidence from UK and US Industries

In aggregate models, costs that penalise changes in investment - investment adjustment costs - have been introduced to help account for a variety of business cycle and asset market phenomena. In this paper, we evaluate empirical evidence for these types of costs using US and UK industry data. We consider a general adjustment cost structure which nests both investment adjustment costs and the traditional capital adjustment costs as special cases. The estimated weight on the former is close to zero for all the industries. When only the investment adjustment cost structure is considered, the estimates of the adjustment cost parameter are small relative to those based on aggregate data, and imply an elasticity of investment with respect to the shadow price of capital (the value to the firm of one additional unit of capital) fifteen times larger than that found in aggregate studies. Our results suggest that from a disaggregated empirical perspective it remains difficult to motivate and interpret the investment friction considered in recent macroeconomic models.

Price stickiness, inflation, and persistence in real exchange rate fluctuations: cross-country results

Abstract Models that emphasize sticky prices to explain persistent real exchange rate fluctuations predict that such fluctuations should be less persistent in high inflation countries relative to low inflation countries. Cross-country regression results, in general, do not support this implication.

Effects of productivity shocks on hours worked: UK evidence

Abstract We provide evidence that positive industry-level productivity shocks cause hours worked to fall in the short run in the UK economy. We use UK industry data, which covers both manufacturing and non-manufacturing industries, and identify productivity shocks using long-run restrictions and structural vector autoregression methodology. Our findings show that the unconditional correlation between growth rates of productivity and hours is negative in almost all the industries, and the correlation conditional on productivity shocks is negative in over three-quarters of the industries. After a positive productivity shock, hours fall in 26 of the 31 industries. The findings at the aggregate level are consistent with those at industry level. We note some striking differences in comparison to the recent US literature. Significantly larger capital adjustment costs in the UK help account for the UK-US differences. Moreover, UK industries with higher investment elasticities (lower capital adjustment costs) have less negative impact effects of hours.

Inventory Investment and the Real Interest Rate

The relationship between inventory investment and the real interest rate has been difficult to assess empirically. Recent work has proposed a linear-quadratic inventory model with time-varying discount factor to identify the effects of real interest rate on inventory investment. The authors show that this framework does not separately identify the effects of real interest rate on inventory investment from variables that determine the expected marginal cost of production. Consequently, understanding the relationship between inventory investment and the real interest rate continues to be a challenge for macroeconomists.