INFLATION PERSISTENCE

This paper demonstrates that the behavior of the conventional Phelps-T aylor model of overlapping wage contracts stands in stark contrast wit h important features of U.S. macro data for inflation and output. In p articular, the Phelps-Taylor specification implies far too little infl ation persistence. We present a new contracting model, in which agents are concerned with relative real wages, that is data-consistent. In a specification that nests both models, we resoundingly reject the conv entional contracting model, but cannot reject the new contracting mode l.