Working Paper Series,
Research Institute of Industrial Economics

Abstract: The paper shows how prolonged price inertia can arise in a macroeconomic system in which there are temporary price rigidities as well as production lags in the use of intermediate goods. In this context, changes in production demand - generated, say, by changes in the money supply - have long-lasting price and quantity effects. Specifically, a temporary demand shift generates "persistence" in price-quantity decisions, in the sense that the price-quantity effects of this shift persist for long after the shift has disappeared. A permanent demand shift generates "sluggishness" in price-quantity decisions, in the sense that the full price effects of the shift take a long time to appear and that meanwhile quantity effects are present.

Keywords: Price-Rigidities; Price Inertia; Production Lags; New Keynesian Economics

JEL-codes: D10; D43; D57; E12; E31; E32

26 pages, March 1996

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