Fed paper explores firm dynamics impact on inflation and policy
A Federal Reserve paper examines how fluctuations in business formation and destruction affect inflation and the transmission of monetary policy, extending a New Keynesian model.
Fewer firms, higher prices
The research extends a New Keynesian model to include endogenous business formation and destruction.
It finds that a decline in the number of producers puts upward pressure on inflation, explaining about half of the missing deflation following the Great Recession.
Policy's intertemporal trade-off
The paper studies monetary policy transmission within this framework.
Endogenous fluctuations in entry generate an intertemporal trade-off, causing inflation to overshoot after a contractionary shock.