Inflation dynamics: A structural econometric analysis

We develop and estimate a structural model of inflation that allows for a f raction of firms that use a backward-looking rule to set prices. The model nests the purely forward-looking New Keynesian Phillips curve as a particul ar case. We use measures of marginal cost as the relevant determinant of in flation, as the theory suggests, instead of an ad hoc output gap. Real marg inal costs are a significant and quantitatively important determinant of in flation. Backward-looking price setting, while statistically significant, i s not quantitatively important. Thus, we conclude that the New Keynesian Ph illips curve provides a good first approximation to the dynamics of inflati on. (C) 1999 Elsevier Science B.V. All rights reserved.