Chris Ti A No

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Di Discussion of i f:

Trend Inflation, Wage and Price  , g Rigidities, and Welfare Amano, Moran, Murchison, Rennison

By Lawrence Christiano

• The public has made it clear that it does not like  inflation – Inflation is viewed as being very socially costly

• Economists have not been particularly successful  at identifying what it is that makes inflation so  y g costly. • This paper proposes an interesting reason for the  apparent high cost of inflation.

• The idea is very simple. • Staggered wage setting Staggered wage setting Wi,t – At any time, a subset of households sets its wage, At ti b t fh h ld t it – The other households: Wi,t  Wi,t−1

– To avoid distortions, would need for the non‐ optimizers to do the following: ti i t d th f ll i gross growth of technology

Wi,t 

 g

inflation

  Wi,t−1

• Problems if non‐optimizers do: Wi,t  Wi,t−1

• Instead of: gross growth of technology

Wi,t 

 g

inflation

  Wi,t−1

– Creates wage distortions, misallocation of  resources   NOT IMPORTANT FOR WELFARE – Makes the economy behave less competitively  ( (surprising) ii )

• Intuition in paper is very clear. • When household sets its wage, will take into  account that, relative to general level of  t th t l ti t ll l f wages, household’s wage will fall. – Early on, wage will be high (high markup)  – Later on, wage will be low (low markup) – The high dominates the low.

In equilibrium, relative wage falls over duration of contract. You might have thought In equilibrium, relative wage falls over duration of contract. You might have thought you’d set it at 1.06 initially, and let it drift down to 0.94. 

In equilibrium, relative wage falls over duration of contract. You might have thought In equilibrium, relative wage falls over duration of contract. You might have thought you’d set it at 1.06 initially, and let it drift down to 0.94. That’s true for prices but not wages. 

Problem: during the phase in which relative wage is low, you are required to work hard. Problem: during the phase in which relative wage is low, you are required to work hard. With curvature in utility of leisure, this is very painful.

Problem: during the phase in which relative wage is low, you are required to work hard. Problem: during the phase in which relative wage is low, you are required to work hard. With curvature in utility of leisure, this is very painful. Household responds by setting the wage rate systematically too high.

Observations • Valuable insight about the property of models  that are in standard use. • Is non‐indexation an important part of the  p p actual costs of inflation? – If it were, then why don’t people index the wage  rate?  rate? – The cost is not an externality. People would  internalize the cost and wouldn’tt they take actions  internalize the cost and wouldn they take actions to avoid it?

Observations…. • The The reason households set their wages high  reason ho seholds set their ages high initially is that it falls systematically over time and  when it is low they have to work much harder  than the ‘want’. • Do we see this happening in practice?  D hi h i i i ? – Households forced to work long hours in the later part  of wage contracts when households are ‘cheap’. g p

• I suspect not.  • Analysis seems vulnerable to the ‘Barro critique’  of sticky wages of sticky wages.

• ‘‘Barro Critique’ – ’ households and firms are in  h h ld df long‐term relationships.  • Frictions in the setting of wages should not have  a substantial impact on outcomes. p • But, sticky wages seem important for  understanding the data! d di h d ! • Hall Hall, Gertler‐Trigari Gertler Trigari have suggested that you can  ha e s ggested that o can have both sticky wages and be immune to Barro  critique

• Gertler‐Sala‐Trigari model: – Wages are negotiated periodically and are unsynchronized  across firms.  – Wage frictions affect the extensive margin: the amount of  resources firms put into worker recruitment. – Wages do not affect the intensive margin. Hours worked  are determined by efficiency, without reference to the  wage.  • This fact about the job is internalized in the wage bargain.

• I suspect that the asymmetry driving this paper’s result  will not be present in this alternative approach to the  labor market. But, it would be useful to investigate this  more.

Conclusion • Very useful, clear and interesting paper. • It would be interesting to explore even more  extensively,  the theory about the cost of inflation in  the paper. – Is Is the high welfare cost of inflation in this paper a ‘Pyrrhic  the high welfare cost of inflation in this paper a ‘Pyrrhic victory’?  If it cost so much, wouldn’t households simply  index wages and avoid the problem. – Is the argument robust to reformulations of the model that  q avoid the Barro critique.

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