Sticky-Price Models of the Business Cycle: Specification and Stability

This paper focuses on the specification and stability of a dynamic, stochastic, general equilibrium model of the business cycle with sticky prices. Maximum likelihood estimates reveal that the data prefer a version of the model in which adjustment costs apply to the price level but not to the inflation rate. Formal hypothesis tests provide evidence of instability in the estimated parameters, concentrated in the Euler equation linking consumption growth to the interest rate.