A Monetary Model of Factor Utilisation

The propagation mechanism of monetary shocks in an otherwise standard sticky-price model is examined, modified to incorporate factor hoarding in the form of variable capital utilisation rates and labour effort. In contrast to previous studies, it is found that real effects of monetary shocks can be generated at relatively low degrees of nominal rigidity. Factor hoarding enriches the propagation mechanism by flattening the marginal cost responses to monetary shocks. The assumption of labour hoarding is crucial for generating persistence, while the assumption of variable capital utilisation allows the generation of realistic investment volatility, without having to introduce capital adjustment costs