How relevant are nominal contracting schemes for monetary policy?

Abstract

Due to the scarcity of pertinent evidence, there is currently no general agreement on how to introduce nominal rigidities into monetary macroeconomic models. We examine the role of alternative assumptions about the wage and price setting mechanisms for the assessment of the welfare costs of nominal rigidities and the performance of alternative monetary policy rules in an otherwise standard New Keynesian general equilibrium model. We find that the choice of a particular price and wage setting scheme matters quantitatively for the welfare costs of nominal rigidities. However, the ranking of the welfare costs associated with alternative wage and price setting schemes is robust to changes in the monetary policy rule, and the ranking of the welfare costs associated with alternative monetary policy rules is robust to changes in the wage and price setting scheme. The difference between sticky nominal contracts and sticky information matters more than the difference in the age distribution of prices wages and information implied by alternative price and wage setting schemes.