Working Paper: NBER ID: w2520
Authors: Bennett T. McCallum
Abstract: This paper begins by identifying nominal price stickiness as the logical basis for the Keynesian or activist point of view concerning demand management policy. It then characterizes two alternative approaches to policy analysis that have been adopted by adherents of the Keynesian position, the "disequilibrium" and "Phillips curve" approaches, The former is inherently defective, it is argued, while the latter has yet to be satisfactorily implemented. Indeed, implementation that is not open to Lucas-critique weaknesses is not in sight. In response to the implied dilemma for policy makers, the paper describes a rule for the conduct of monetary policy that relies upon minimal understanding of price-adjustment dynamics and which should be robust to regulatory and technological change In the economy's financial and payments institutions. A bit of evidence is presented to suggest that the rule would, if adopted, lead to approximately zero inflation (on average) and to output/employment fluctuations that are small by historical standards.. Possible criticisms relating to recent European experience and to recent theoretical developments are considered.
Keywords: demand management; full employment; monetary policy; price stickiness
JEL Codes: E24; E31; E52
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| nominal price stickiness (E31) | nominal aggregate demand (E00) |
| nominal aggregate demand (E00) | real output (E23) |
| nominal aggregate demand (E00) | employment levels (J23) |
| nominal GNP growth (O40) | employment levels (J23) |
| demand management policies (M11) | employment levels (J23) |
| monetary policy rule (E52) | nominal GNP growth (O40) |
| nominal aggregate demand (E00) | cyclical fluctuations in real output (E32) |