the Calvo contract process with the corresponding distribution of contract
lengths from 1 to infinity.
First, let us take the simple case of a two sector uniform GTE, {T, α} =
{(2,8), (0.9,0.1)} : in sector 1 there are two period contracts, in sector 2
there are 8 period contracts: the short contract sectors produce 90% of the
economies output, the long-contracts 10%. The average contract length in
the whole economy (weighted by ai) is 2.6 quarters.
In Figure 2 we show both the simple Taylor economy with only 2-period
contracts alongside the GTE with 10% share of 8-period contracts. We report
the impulse response of aggregate output after a one-percent shock in money
supply as in Figure 18. As can be seen from the Figure 2, the GTE and simple
Taylor economy have dramatically different implications for persistence. In
the simple Taylor economy with 2-quarter contracts, changes in money supply
have a potentially large but short-lived effect on output. In the GTE , the
presence of long-term contracts means that not only does aggregate output
rise following a increase in the money supply, but it is considerably fore
persistent.
4.0.2 Taylor’s US Economy
The main question addressed in this section is whether the GTE can ac-
count for multiplier. To calibrate the share of each sector, Ni ,which can be
interpreted as the share of different contracts, we rely on the study by (Tay-
lor (1993)), Taylor Calibrates the US economy as T = (1,2, 3,4, 5,6, 7, 8),
with sector shares being: αq = 0.07, o⅛ = 0.19, o⅛ = 0.23,гц = 0.21, o⅛ =
0.15, α6 = 0.08, «7 = 0.04, o⅛ = 0.03. We can note that the largest sector is
3—period contracts, the three contract lengths (3, 4, 5) each have about 20%,
with a fat tail of longer contracts (as many 7 and 8 quarter contracts as 1
quarter contracts).
In Figure 3, we report the response of output to innovations in monetary
shock. We find persistent response in output. In particular, the effect of a
one-percent monetary shock on output lasts roughly three years. It is evident
that incorporating generalized wage setting into a dynamic equilibrium model
has a significant effect on dynamic responses of output. The average contract
length in this economy is 3.6 periods. We compare this economy with the
corresponding simple Taylor Economy with an average contract length of 3.5
8We use Dynare to compute the impulse response functions. See Juillard (1996).
16