Abstract
I study the effect of the trending relative price of investment on the optimal target rate of inflation. The price of investment has a decreasing trend relative to that of consumption because of investment-specific technological progress. If the prices of investment goods are sticky, a benevolent planner puts weight on stabilizing those prices, which works to raise the optimal target rate of inflation in terms of the price of consumption. The Bayesian estimation of a dynamic general equilibrium model that features the trending relative price of investment reveals a high degree of nominal rigidity in the prices of investment goods. The resulting optimal target rate of inflation is significantly positive with a median of 1.5 percent. The result is robust to the extended model in which the prices of some categories of investment goods are flexible.
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