Sticky-price models of the business cycle: Specification and stability

This paper focuses on the specification and stability of a dynamic, stochastic, general equilibrium model of the American business cycle with sticky prices. Maximum likelihood estimates reveal that the data prefer a version of the model in which adjustment costs apply to the price level but not to the inflation rate. Formal hypothesis tests detect instability in the estimated parameters, particularly in estimates of the representative household's discount factor. Evidently, more detailed descriptions of the economy are needed to explain movements in interest rates before and after 1979. (C) 2001 Elsevier Science B.V. All rights reserved.