Research Discussion Paper – RDP 24 Price Movements: Causes and Lags


This paper presents separate equations for the price deflators for most components of aggregate demand. Eventually these equations are to form part of the RBA2 model of the Australian economy. At that stage the implicit price deflators for gross national product and gross business product will be explained as the ratios of the relevant current and constant price dollar totals. The consumer price index will be explained by a weighted average of the appropriate final demand deflators.

The equations reported here differ from those reported by Norton, Schott and Sweeny [17] in a number of ways. First, a more precise measure of normal unit labour costs is used in the equations. Second, experiments have been carried out in which unit capital costs as well as unit labour costs is included as an explanatory variable. Third, a measure of demand-supply imbalance in the goods market has been used as an alternative to vacancies and unemployment to reflect the pressure of demand. Fourth, an attempt has been made to include specific import prices in some of the equations. Finally, a more flexible method has been used to allow for lags in the adjustment of prices to changes in their determinants.

The plan of the paper is as follows. The theoretical framework underlying the equations is given in Section 2. The type of lags employed in the equations and the method by which the shape and length of lags is decided is discussed in Section 3. The list of variables and sources of data are given in Section 4, the empirical results are presented in Section 5 and the conclusions and further comments are given in Section 6.