Welfare loss and policy trade-offs: Calvo vs. Rotemberg

Joonseok Oh

Economics Letters, 2025, vol. 249, issue C

Abstract: This paper shows that the Calvo and Rotemberg pricing models lead to different outcomes regarding welfare losses and inflation-output dynamics, based on the type of subsidies used to achieve an efficient steady state. When revenue subsidies are applied in the Rotemberg model, the inflation-output dynamics and welfare loss functions are identical to those of the Calvo model. However, with employment subsidies, the two models differ. Aligning the inflation-output dynamics causes differences in the welfare loss function. These findings underscore the importance of model selection in the design of monetary policy, influencing the trade-off between inflation and output gap stabilisation.

Keywords: Welfare loss; New Keynesian Phillips curve; Optimal monetary policy (search for similar items in EconPapers)
JEL-codes: E12 E44 E52 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecolet:v:249:y:2025:i:c:s0165176525000813

DOI: 10.1016/j.econlet.2025.112244

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