Sticky Information Versus Sticky Prices: A Proposal to Replace the New Keynesian Phillips Curve

I develop a structural model of inflation by combining twodifferent models of price setting behavior: the sticky price model of the New Keynesian literature and the sticky information model of Mankiw and Reis. In a framework similar to the Calvo model, I assume that there are two types of firms. One type of firm chooses its prices optimally through forward-looking behavior---as assumedin the sticky price model. It uses all available information when deciding on prices. The other type of firm sets its prices under the constraint that the information it uses is ``sticky''---as assumed in the sticky information model. It collects and processes the information necessary to choose its optimal prices with adelay. This leads to the sticky price-sticky information (SP/SI) Phillips curve that nests the standard sticky price and sticky information models. Estimations of this structural model show that both sticky price and sticky information models are statistically and quantitatively important for price setting. However, the sticky price firms make up the majority of the firms in the economy. The resultant SP/SI Phillips curve models inflation better than either the sticky price or sticky information models. The results are robust to alternative sub-samples and estimation methods.