LOG-LINEARIZATION AROUND ZERO INFLATION STEADY STATE Let Qt = Ptt i.e.

the relative price chosen by all who change their price in period t. 1 We have Pt1 = (1 w)(p + wPt1 1 t) t1 1 So 1 = (1 w)Q1 + w( PP ) t t Assume a 0 steady-state ination rate, with Q t = 1 Dening q t = log (Qt ) 0 (1 w) qt wt w q t 1w t Now log-linearize
p

[Et
i=0

i i

Pt+i Ct1+ ) ]Qt i ( Pt

= [Et
i=0

wi i Ct1+ i t+i (

Pt+i )] Pt

The left-hand side C 1 C 1 + q t + C 1 1 w 1 w The right-hand side C 1 + C 1 [ 1 w

wi i [(1 )Et c t+i + ( 1)(Et p t+i p t )].

i=0

t+i + (1 )Et c wi i [Et t+i + (Et p t+i p t )]]

i=0

Setting these expressions equal and using = 1, we get 1 q t + wi i [(1 )Et c t+i +(1)(Et p t+i p t ) = 1 w i=0 1 q t = 1 w

wi i [t+i +(1 )Et c t+i +(Et p t+i p t )]

i=0

t+i + Et p wi i (Et t+i ) p t ).

i=0

1 q t = 1 w

t+i + Et p wi i (Et t+i )

i=0

1 p t 1 w

LOG-LINEARIZATION AROUND ZERO INFLATION STEADY STATE

q t + p t = (1 w )
i=0

t+i + Et p wi i (Et t+i )

t + p q t + p t = (1 w )( t ) + w (Et q t+i + Et p t+i ) t + w (Et q q t = (1 w ) t+1 + Et t+1 ) w t + w [ w Et t+1 + Et t+1 ] t = (1 w ) 1w 1w t + Et t+1 t = where = (1 w)(1 w ) w