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2017-12 | September 2017

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Approximating Multisector New Keynesian Models

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A calibrated three-sector model with a suitably chosen distribution of price stickiness can closely approximate the dynamic properties of New Keynesian models with a much larger number of sectors. The parameters of the approximate three-sector distribution are such that both the approximate and the original distributions share the same (i) average frequency of price changes, (ii) cross-sectional average of durations of price spells, (iii) cross-sectional standard deviation of durations of price spells, (iv) cross-sectional skewness of durations of price spells, and (v) cross-sectional kurtosis of durations of price spells. This result should prove useful to the literature that takes into account heterogeneity in price stickiness in DSGE models. In particular, it should allow for the estimation of such models at a much reduced computational cost.

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Article Citation

Carvalho, Carlos, and Fernanda Nechio. 2017. "Approximating Multisector New Keynesian Models," Federal Reserve Bank of San Francisco Working Paper 2017-12. Available at https://doi.org/10.24148/wp2017-12