Does Money Illusion Matter?

Ernst Fehr and Jean-Robert Tyran

No 45, IEW - Working Papers from Institute for Empirical Research in Economics - University of Zurich

Abstract: Money illusion means that people behave differently when the same objective situation is represented in nominal terms rather than in real terms. This paper shows that seemingly innocuous differences in payoff representation cause pronounced differences in nominal price inertia indicating the behavioral importance of money illusion. In particular, if the payoff information is presented to subjects in nominal terms, price expectations and actual price choices after a fully anticipated negative nominal shock are much stickier than when payoff information presented in real terms. In addition we show that money illusion causes asymmetric effects of negative and positive nominal shocks. While nominal inertia is quite substantial and long-lasting after a negative shock, it is rather small after a positive shock.

Keywords: Money illusion; nominal inertia; sticky prices; non-neutrality of money (search for similar items in EconPapers)
JEL-codes: C92 E32 E52 (search for similar items in EconPapers)
Date: 2000-05
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Journal Article: Does Money Illusion Matter? (2001)
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Persistent link: https://EconPapers.repec.org/RePEc:zur:iewwpx:045

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