Abstract
We show that the extent of risk-sharing among heterogeneous workers is adeterminant of the degree of monetary non-neutrality in a multisector sticky-price model. Workers are employed in different sectors of the economy and, as a consequence, earn different wages. The inability of workers to insure fully against their labor income risks generates strategic complementarity in price-setting decisions of firms with respect to aggregate shocks and strategic substitutability with respect to idiosyncratic shocks. Such pricing interactions lead to slow price adjustments to monetary and other aggregate shocks, thereby producing large fluctuations ofthe output gap, without dampening price responses to idiosyncratic shocks. This in turn allows for large responses of sectoral and aggregate outputs to idiosyncratic productivity shocks. We illustrate our results under three stylized asset market setups: complete markets, non-contingent bond-only markets, and financial autarky.
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