Staff Working Paper No. 1,065
By Frederick van der Ploeg and Tim Willems
Since the post-Covid rise in inflation has been accompanied by strong wage growth, the distributional conflict between wage- and price-setters (both wishing to attain a certain markup) has regained prominence. We examine how a central bank should resolve a ‘battle of the markups’ when desired markups are cyclically sensitive, highlighting how monetary policy can transmit by affecting markup aspirations. We establish conditions under which above-target inflation requires a reduction in economic activity, to eliminate worker-firm disagreement over the appropriate level of the real wage. We show that countercyclical markups and/or a flat Phillips curve call for more dovish monetary policy. Following an adverse cost-push shock, optimal policy might even call for a period of joint price and wage inflation.
This version was updated in January 2026.
Battle of the markups: conflict inflation and the aspirational channel of monetary policy transmission