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Welfare loss and policy trade-offs: Calvo vs. Rotemberg

Welfare loss and policy trade-offs: Calvo vs. Rotemberg
Welfare loss and policy trade-offs: Calvo vs. Rotemberg

This paper shows that the Calvo and Rotemberg pricing models lead to different outcomes regarding welfare losses and inflation-output dynamics, based on the type of subsidies used to achieve an efficient steady state. When revenue subsidies are applied in the Rotemberg model, the inflation-output dynamics and welfare loss functions are identical to those of the Calvo model. However, with employment subsidies, the two models differ. Aligning the inflation-output dynamics causes differences in the welfare loss function. These findings underscore the importance of model selection in the design of monetary policy, influencing the trade-off between inflation and output gap stabilisation.

New Keynesian Phillips curve, Optimal monetary policy, Welfare loss
0165-1765
Oh, Joonseok
020d4770-4b18-4b76-bf81-d3e58b9f4eed
Oh, Joonseok
020d4770-4b18-4b76-bf81-d3e58b9f4eed

Oh, Joonseok (2025) Welfare loss and policy trade-offs: Calvo vs. Rotemberg. Economics Letters, 249, [112244]. (doi:10.1016/j.econlet.2025.112244).

Record type: Article

Abstract

This paper shows that the Calvo and Rotemberg pricing models lead to different outcomes regarding welfare losses and inflation-output dynamics, based on the type of subsidies used to achieve an efficient steady state. When revenue subsidies are applied in the Rotemberg model, the inflation-output dynamics and welfare loss functions are identical to those of the Calvo model. However, with employment subsidies, the two models differ. Aligning the inflation-output dynamics causes differences in the welfare loss function. These findings underscore the importance of model selection in the design of monetary policy, influencing the trade-off between inflation and output gap stabilisation.

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More information

Accepted/In Press date: 19 February 2025
e-pub ahead of print date: 27 February 2025
Published date: 28 February 2025
Keywords: New Keynesian Phillips curve, Optimal monetary policy, Welfare loss

Identifiers

Local EPrints ID: 499502
URI: http://eprints.soton.ac.uk/id/eprint/499502
ISSN: 0165-1765
PURE UUID: f190421b-c0da-42d2-b0fd-85302823daef
ORCID for Joonseok Oh: ORCID iD orcid.org/0009-0006-6850-7969

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Date deposited: 21 Mar 2025 17:51
Last modified: 22 Aug 2025 02:42

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Contributors

Author: Joonseok Oh ORCID iD

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