Kiel Working Papers, Kiel Institute for World Economics
No 1353:
Do Search Frictions Matter for Inflation Dynamics?
Michael U. Krause, David J. Lopez-Salido and Thomas Lubik
Abstract: We assess the empirical relevance for inflation dynamics
of accounting for the presence of search frictions in the labor market. The
New Keynesian Phillips curve explains inflation dynamics as being mainly
driven by current and expected future marginal costs. Recent empirical
research has emphasized different measures of real marginal costs to be
consistent with observed inflation persistence. We argue that, allowing for
search frictions in the labor market, real marginal cost should also
incorporate the cost of generating and maintaining long-term employment
relationships, along with conventional measures, such as real unit labor
costs. In order to construct a synthetic measure of real marginal costs, we
use newly available labor market data on worker finding and separation
rates that reflect firing and hiring costs to the firm. We then estimate a
New Keynesian Phillips curve using structural econometric techniques.
26 pages, June 2007
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