State-Dependent Pricing and the General Equilibrium Dynamics of Money and Output

Economists have long suggested that nominal product prices are changed infrequently because of fixed costs. In such a setting, optimal price adjustment should depend on the state of the economy. Yet, while widely discussed, state-dependent pricing has proved difficult to incorporate into macroeconomic models. This paper develops a new, tractable theoretical state-dependent pricing frame-work. We use it to study how optimal pricing depends on the persistence of monetary shocks, the elasticities of labor supply and goods demand, and the interest sensitivity of money demand. I.