The Neo-Fisherian Hypothesis

An interesting blog by Cochrane:

Is that right?

Standard argument says — reduce nominal interest rate — price sticky — reduce real interest rate — increase demand — higher inflation (because people have to work more to satisfy these demand (labor leisure choice push up wage), or because of decreasing returns)

Is the last argument correct? Well, I am not sure, because people say the price level is determined by money supply in the long run (it’s ok, we only worry about steady state level). What else would determine inflation?

Well, the cost is not just wage cost, but also borrowing cost, right? So if I have anything like a borrowing cost model, a higher nominal interest rate would push up the inflation rate. But why would nominal rate raise initially? After all it’s all about self-fulfilling beliefs?

Ok, this maybe one way to justify the Neo-Fisherian idea. But this shows up in the standard sticky price model? Why? I will need to do the algebra, let’s do it tomorrow.


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