There are many aspects of central bank models that are – often deliberately – abstract from reality. That does not necessarily affect a model’s performance and can help make it easier to solve and interpret. But sometimes an oversimplification can lead central banks astray.

New research highlights how Calvo pricing, a key assumption in many models, provides a poor approximation of reality when inflation undergoes a sudden surge. Under Calvo pricing, a firm will update its prices in a given period