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Wage and Price Controls in a Dynamic Macro Model

Uri M. Possen

Abstract

Wage and price controls in the form of inflation ceilings are introduced into a dynamic extension of a variant of the IS-LM model. The controls do not alter the location of the equilibrium; rather, they affect the path and speed of adjustment of the economy. When slack exists, controls can be useful for lowering the rate of inflation and increasing employment and aggregate demand. However, when excess demand is present, controls although reducing the excess demand pressures and lowering the inflation rate may necessitate some form of commodity rationing.