Labour Market Frictions, Monetary Policy and Durable Goods

Abstract

This paper provides a quantitative answer to the ‘sectoral comovement puzzle’. We extend the two-sector New Keynesian model with flexible durable good prices and sticky non-durable good prices by:

(i) labour search and matching frictions and

(ii) internal habit formation in non-durable consumption.

Search and matching frictions generate comovement and increase the persistence of sectoral outputs, whereas habit formation helps to appropriately distribute the impact of a given shock over the two sectors. As a result, our estimated model closely replicates the amplitude and the curvature of the empirical impulse responses in both sectors.

Keywords: durable production, labour market frictions, sectoral comovement, monetary policy

JEL Classification: E21, E23, E31, E52