“If You Want to Know Why Firms Have Sticky Prices, Ask Them”: Reaction
The article tried to explain how firms change prices by studying the frequency of a firm’s change in price and the theories used behind the stickiness of price. As Blinder puts it, the article presents how economic theories meet the real world. By looking at the table 10-2, there are 4 theories that are accepted by more than half of the firms. Also, more than half of the firms change prices twice or lesser. This might imply that in the real world, the main factors of stickiness are; coordination failure, lags on adjustment to price due to cost, delivery lags, service and others, and lastly, implicit contracts.
Half of the firms or an intersection of the group choose to change prices once or twice and can also be attributed to the fifty percent who believes the four factors help them decide when to adjust their price. This also implies more things in the real world. First, firms wait for other firms to change prices, which mean having only once or twice changes in price for a year means that firms themselves choose the frequency of changing their prices as little as possible. Second, costs do not always change in the real world. Third, other services aside from production are not always problematic. Lastly, firms choose to have a stable price so it also implies why there are less price changes on other firms as the first implication states. The problem in this study is that firms are asked by only considering their most important products. Reaction on the theories may vary when the other goods are considered.
The article proposed an interesting result, that better coordination might achieve welfare. If price is not sticky, welfare could be achieved. Well adjusting price is good for the public.
A Monetary Lesson From French History: Reaction
Velde wrote about the money contraction France did on the year 1724. The article reflected a shift of the purchasing power of consumers by reducing the value of money by twenty percent. This reduction, as Velde reported, created a lot of changes in domestic and foreign markets. However, in the domestic market, the reaction was delayed as compared to foreign exchange markets which reacted instantaneously. Also investments were held due to holders of money believing that the value of money might fall again.
In theory, changes in money supply will affect factors like, interest rates, demand, and supply. In the scenario, it happened as what is theorized, however, it is not close as to when it is computed by economic formulas. Expected 45% decrease on price was not achieved, though price and wage decreased in the span of the decree.
The study only shows that economic analysis, by using the concept of ceteris paribus, can be close, but not completely explain economic phenomenon. There are still other factors that should be considered before issuing an economic policy. An example is that, by decreasing the purchasing power of consumers, aggregate demand will shift to the left. This will cause a decrease on the quantity supplied and in the long run, to achieve the quantity supplied before the decrease, the market should work to decrease price. This is shown in table 10-12.
“Cutting Taxes to Stimulate the Economy”: Reaction
The case study presented the effects of John F. Kennedy and George W. Bush’s tax policy where they cut income taxes to give the people more purchasing power. An increase in purchasing power will shift the aggregate demand curve to the right, where it will, at the same time, create an increase in production. In supply-demand theory, consumption is decreased by taxes, and thus reduces the GDP. If taxes are reduced, then consumption will increase and thus GDP. In simple terms, when demand shifts to the right, supply will also increase because the price level will respond to the increase so that equilibrium can be obtained.
The theory is a good fit to the data provided by the article. Cutting taxes will increase spending, and thus increase total production, as Bush stated in 2003. In microeconomics, an increase on the purchasing power of consumers will mean that they can buy more goods so that they could achieve higher utility. This is also true in macroeconomics.
“Does a Monetary Tightening Raise or Lower Interest Rates?”: Reaction
The case study presents the effects of monetary tightening on interest rates. It was stated that the effect differs with time, where interest rates increase at the short run, while it lowers on the long run. As an example, the case study presented two events, first is the inflation in the US economy in the 1970s and the 1979 monetary policy where interest rates fell in 1986 by 6%. Monetary tightening is used so that spending and investments can be controlled up to some point by the banks.
The difference in time is caused by the characteristic of price on the two theories, the Fisher effect and the liquidity preference. In the fisher effect, the long run has a flexible price. Its difference in the liquidity preference is that, at the short run, price is actually constant. Analysis of the economic phenomena that happens with monetary tightening should consider the behavior of price so that policy makers can use the appropriate predictions. Aside from time, the stickiness of price should also be considered so that real money balances could be correctly assumed. It could be the case that price is actually sticky in the long run and that the liquidity preference can be used for policy making.
In the real world, as discussed in chapter 10, the stickiness of prices varies in the short run and the long run. Given that many of the firms only change their prices once or twice a year, it can be the case that in a span of a couple of years, the price may drastically change. At some point, the Fisher effect and the liquidity preference is accurate.
Reference
Mankiw, N. G. (2012). Macroeconomics 8th Ed. New York: Worth Publishers.
