DP9488 Monetary Shocks with Observation and Menu Costs

Author(s): Fernando Alvarez, Francesco Lippi, Luigi Paciello
Publication Date: May 2013
Keyword(s): impulse responses, inattentiveness, monetary shocks, sticky prices
JEL(s): E5
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=9488

We compute the impulse response of output to an aggregate monetary shock in a general equilibrium when firms set prices subject to a costly observation of the state and a menu cost. We study how the aggregate effects of a monetary shock depend on the relative size of these costs. We find that empirically reasonable observations costs increase the impact and the persistence of the output response to monetary shocks compared to models with menu cost only, flattening the shape of the impulse response function. Moreover we show that if the shocks are not large the results are independent of the assumption of whether firms know the realization of the monetary shock on impact.