Working Paper Series no. 148: How Well Does a Small Structural Model with Sticky Prices and Wages Fit Postwar U.S. Data?

Abstract

In this paper, we ask whether a small structural model with sticky prices and wages, embedding various modelling devices designed to increase the degree of strategic complementarity between price-setters, can fit postwar US data. To answer this question, we resort to a two-step empirical evaluation of our model. In a first step, we estimate the model by minimizing the distance between theoretical autocovariances of key macroeconomic variables and their VAR-based empirical counterparts. In a second step, we resort to Watson's (1993) procedure [Measures of fit for calibrated models. Journal of Political Economy 101 (6), 1011.1041] to quantify the model's goodness-of-fit. Our main result is that the combination of sticky prices and sticky wages is central in order to obtain a good empirical fit. Our analysis also reveals that a model with only sticky wages does not perform well according to Watson's criterion (1993).

Julien Matheron, and Céline Poilly
July 2006

Classification JEL : C52, E31, E32.

Keywords : Sticky prices, sticky wages, strategic complementarities, Watson's test.