Is a Calvo price setting model consistent with micro price data?

Luis Alvarez and Pablo Burriel ()

No 1010, Working Papers from Banco de España

Abstract: This paper shows that the standard Calvo model clearly fails to account for the distribution of price durations found in micro data. We propose a novel price setting model that fully captures heterogeneity in individual pricing behavior. Specifically, we assume that there is a continuum of firms that set prices according to a Calvo mechanism, each of them with a possibly different price adjustment parameter. The model is estimated by maximum likelihood and closely matches individual consumer and producer price data. Incorporating estimated price setting rules into a standard DSGE model shows that fully accounting for pricing heterogeneity is crucial to understanding inflation and output dynamics. The standard calibration that assumes within sector homogeneity, as in Carvalho (2006), is at odds with micro data evidence and leads to a substantial distortion of estimates of the real impact of monetary policy.

Keywords: price setting; Calvo model; heterogeneity; hazard rate (search for similar items in EconPapers)
JEL-codes: C40 D40 E30 (search for similar items in EconPapers)
Pages: 35 pages
Date: 2010-04
New Economics Papers: this item is included in nep-cba, nep-dge and nep-mon
References: Add references at CitEc
Citations: View citations in EconPapers (5)

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Persistent link: https://EconPapers.repec.org/RePEc:bde:wpaper:1010

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