Selection and Monetary Non-Neutrality in Time-Dependent Pricing Models

Given the frequency of price changes, the real effect of a monetary shock is smaller if adjusting firms are the ones with older and, hence, more misaligned prices. This selection effect is important in a large class of sticky-price models with time-dependent price adjustment. We characterize conditions on the distribution of price durations associated with impact of monetary shocks: 1) Adjusting prices are older and real effects are smaller if the hazard function is more strongly increasing. 2) Adjusting prices are younger and real effects are larger if there is heterogeneity in price setting. 3) Adjusting prices are older and real effects are smaller if the durations of price spells is less variable. 4) The real effect of a shock to the growth rate of nominal income increases in the skewness of price spells. 5) Quantitative exercises show that it is enough to match the first two moments of the distribution of durations to get accurate real effects of monetary shocks. 6) The results in this paper generalize to the "sticky-information" setting proposed by Mankiw and Reis (2002).