Working Papers
Working Papers
Abstract
This study extends the conventional Rational Inattention framework by introducing two groups of firms with heterogeneous information-processing capacities: high-capacity (High) and low-capacity (Low) firms. High-capacity firms adjust prices immediately even when the variance of shocks is small, whereas low-capacity firms participate in price adjustment only when the variance surpasses a critical threshold. This mechanism generates a discontinuous kink between smooth and volatile regions of price responses, which is further amplified by strategic complementarities among firms. Model analysis reveals that under low uncertainty, price volatility remains limited, but once the threshold is crossed, volatility expands explosively. It is only within this regime that central bank information provision exerts a meaningful stabilizing effect on prices. These findings suggest that in an environment where information-processing heterogeneity and strategic interactions coexist, price rigidity and the effectiveness of monetary policy emerge in a nonlinear and asymmetric manner. Accordingly, central banks should design differentiated communication strategies that account for the distribution of firms’ information capacities.
Abstract
This study extends the conventional Rational Inattention framework by introducing two groups of firms with heterogeneous information-processing capacities: high-capacity (High) and low-capacity (Low) firms. High-capacity firms adjust prices immediately even when the variance of shocks is small, whereas low-capacity firms participate in price adjustment only when the variance surpasses a critical threshold. This mechanism generates a discontinuous kink between smooth and volatile regions of price responses, which is further amplified by strategic complementarities among firms. Model analysis reveals that under low uncertainty, price volatility remains limited, but once the threshold is crossed, volatility expands explosively. It is only within this regime that central bank information provision exerts a meaningful stabilizing effect on prices. These findings suggest that in an environment where information-processing heterogeneity and strategic interactions coexist, price rigidity and the effectiveness of monetary policy emerge in a nonlinear and asymmetric manner. Accordingly, central banks should design differentiated communication strategies that account for the distribution of firms’ information capacities.
Korean Economics Journal, Feb 2023 (with Jae Won Lee, Seunghyeon Lee and Jinshil Hong)
Abstract
The paper discusses whether an economy with flexible prices, where inflation does not cause distortions and aggregate output always reaches its natural level, is always more desirable than an economy with sticky prices. In particular, it argues that households are better off in a sticky-price economy when financial markets are incomplete, the degree of nominal rigidity varies significantly across sectors, and monetary policymakers aim to maximize social welfare. Incomplete financial markets lead to suboptimal consumption distribution and inefficient production allocation. Monetary policy can mitigate the welfare losses caused by nominal rigidities and/or incomplete financial markets, but it is only effective in a sticky-price economy.