CAPACITY AND ASYMMETRIES IN MONETARY POLICY
23
time of the monetary policy action, from 65% to 95%.16 Notice that the response
of output, labor, real wages and investment is stronger when the capacity utiliza-
tion rate is low. Intuitively, when the economy experiences a low level of capacity
utilization, an expansive monetary policy shock will lead to a strong increase in
output since less firms are producing at full capacity. Thus, in the low capacity
case, the constraints that are associated to the predetermined level of equipment are
less restrictive for a large set of input producing firms. The resulting expansion in
output is achieved with the subsequent increase in employment. Under this same
environment, the response of the nominal interest rate is higher due to a strong
liquidity effect. The equilibrium interest rate at which firms will accept the new
currency is much lower when more firms cannot increase their production due to
the existence of capacity utilization constraints. Notice also the highly non-linear
path that the impact response of this variable traces when the capacity utilization
rate, at the time of the shock, increases. This result is, somehow, related to that
of Cook (1999) who develops a model in which firms cannot transfer capital across
sectors.
As expected, output prices are more sensible in a high capacity economy pro-
vided that investment is either a cash good or there are adjustment costs in capital.
The monetary shock also produces an impact change on some other important en-
dogenous variables. The response of the capital-labor ratio is significantly different
depending on the capacity utilization rate of the economy. The capacity utilization
rate increases more and the price relation decreases more, the lower is the capacity
at the time of the shock. The mark-up increases more in a high capacity economy,
and the weighted proportion of firms producing while having idle resources also
decreases more in a high capacity economy. The dynamics of these variables also
display a remarkably non-linear shape. It must be pointed out that the monetary
shock does not produce a dynamic response in these capacity-related variables. This
reflects the intraperiod nature of the real frictions embedded in the model. As a
result, the qualitative characteristics of the contemporaneous impact do not extend
beyond the period of the monetary policy shock. The asymmetric dynamics are
not kept along time. Hence, a rather interesting extension of the model presented
here is to achieve more persistency in the response of the endogenous variables to
the monetary shock, for instance, by extending the intratemporal nature of the
idiosyncratic shock towards an intertemporal dimension.
Finally, Figure 11 represents a Pseudo Phillips curve. Each point in this figure
corresponds to a cumulated increase in the capacity and inflation gap due to a series
of 1% unanticipated monetary policy shocks. It is relevant to see the non-linearity
in such a relationship. For low levels of capacity utilization rate, the monetary
policy shock exerts more pressure on real economic activity than on prices. As the
economy moves toward a situation with a higher rates of aggregate capacity uti-
lization, the effects of subsequent monetary policy shocks are comparatively more
intense on prices. This result illustrates the direct link between the empirical find-
ings described, for instance, in Alvarez-Lois (2000) with those coming from the
theoretical model of this paper.
16The simulations are obtained by varying the parameters ε and συ in order to achieve a given
capacity utilization rate. It must be pointed out that the results are independent of the specific
combination chosen of those parameters.