Department of Economics

State-Dependent Nominal Rigidities Disinflation Programs in Small Open Economies

Department of Economics

University of Delaware

Working Paper #2006-13

State-Dependent Nominal Rigidities & Disinflation Programs in Small Open Economies

Kólver Hernández

ABSTRACT

    Experiences of high-inflation economies suggest that exchange rate-based (ERB) and money-based (MB) disinflations induce sharply different dynamics in consumption and GDP. I study the role of nominal rigidities to explain such dynamics. I build on Calvo pricing to introduce elements of state-dependent into an otherwise standard small open economy. This new feature delivers state-dependent nominal rigidities (SDNR). Nonlinear simulations show that the model with SDNR generates a dynamic behavior consistent with both ERB and MB disinflations; however the model’s special case with constant nominal rigidities is not successful rationalizing ERB disinflations.

 

JEL CODES: E31, E32, E37

KEY WORDS: Nominal rigidities, disinflations, state-dependent pricing, exchange-rate based stablizations

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