Price-setting, monetary policy and the contractionary effects of productivity improvements

This paper adds to the large literature on the e¤ects of technology shocks empirically and theoretically. Using a SVEC model, we first show that not only hours but also investment decline temporarily following a technology improvement. This result is robust with respect to important data and identification issues addressed in the literature. We then show that the negative response of inputs is consistent with an estimated monetary DSGE model in which the presence of strategic complementarity in price setting, in addition to nominal rigidity, lowers the sensitivity of prices to marginal costs, and monetary policy does not fully accommodate the shock.