Asymmetric Inflation Expectations, Downward Rigidity of Wages, and Asymmetric Business Cycles

Abstract

Household expectations of the inflation rate are much more sensitive to inflation than to disinflation. To the extent that workers have bargaining power in wage determination, this asymmetry in their beliefs can make wages respond quickly to inflationary forces but sluggishly to deflationary ones. I microfound asymmetric household expectations using ambiguity-aversion: households, who do not know the quality of their information, overweight inflationary news since it reduces their purchasing power, and underweight deflationary news since it increases their purchasing power. I embed asymmetric beliefs into a general equilibrium model and show that, in such a model, monetary policy has asymmetric effects on employment, output, and wage inflation in ways consistent with the data. Although wages are downwardly rigid in this environment, monetary policy need not have a bias towards using inflation to grease the wheels of the labor market.

Secular Labor Reallocation and Business Cycles

“…We incorporate an industry structure and labor reallocation frictions following Kline (2008), Pilossoph (2014), and Dvorkin (2014). Downward nominal wage rigidity has recently been emphasized by Schmitt-Grohé and Uribe (2013), Baqaee (2014) and Daly and Hobijn (2014), and following Hall (2005), our implementation does not violate bilateral bargaining efficiency conditions (Barro, 1977).…”

Survey Data and Subjective Beliefs in Business Cycle Models

“…In contrast to this literature, our focus is to build general equilibrium models disciplined by these survey data and study quantitative macroeconomic questions. 1 In addition, our theory 1 Some notable exceptions that also utilize information from survey data in general equilibrium models are Jurado (2016), Baqaee (2019), Carroll et al (2019), and Adam and Merkel (2019). A parallel literature studies empirical properties of survey forecasts on asset returns and embeds them in asset pricing models.…”

Downward Wage Rigidity, Corporate Investment, and Firm Value

“…Applying the method proposed in Lebow, Stockton, 1 Campbell and Kamlani (1997) provide a review of theories of wage rigidity and investigate potential sources of wage rigidity using a survey. More recently, Baqaee (2015) proposes a model in which asymmetric household expectations about the inflation rate generates downward wage rigidity. Empirical evidence for downward wage rigidity can be found, for example, in Card and Hyslop (1997), Kahn (1997), Lebow, Saks, and Wilson (2003), Daly, Hobijn, and Lucking (2012), Barattieri, Basu, and Gottschalk (2014), and Kurmann, McEntarfer, and Spletzer (2016).…”