The New Keynesian Phillips Curve

I discuss how the New Keynesian Phillips Curve is derived, using the Calvo Fairy. This is the assumption that some fraction of firms may change price in each period, while all other firms must keep the same price as in the previous period. Prices are thus set to minimise a loss function arising due to prices in the future potentially differing from the optimal price level.
This allows us to derive the New Keynesian Phillips curve. We have inflation in period t depending on forward looking inflation expectations and the output gap.
Check out the playlist for a number of past and future videos on the topic of business cycles.
We begin with a basic overview of what is meant by business cycles. This involves detrending the data such that we can isolate the short run cyclical effects on output.
We then develop some models for examining the propagation mechanisms involved in causing cyclical behaviour. This begins with Real Business Cycle Models. These models focus on real variables, so do not generate predictions for nominal variables. We have shocks to the supply side of the economy, causing uncertainty and fluctuations that may propagate into the future.
We then move to New Keynesian models. These introduce nominal frictions into the model, including some level of imperfect competition, normally monopolistic competition. There is then some cost involved with changing prices, often called "menu costs". These can involve costs of printing a new catalogue, but could also be extended broader to informational costs such as customers wanting a constant price, as rapidly changing prices can cause uncertainty. We the have fluctuations arising from shocks to both demand and supply sides of the economy.
We can extend these models by altering the assumptions to better capture the economy.
Guillermo A. Calvo (1983). Staggered prices in a utility-maximizing framework, Journal of Monetary Economics, Volume 12, Issue 3, Pages 383-398.
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