*When both prices and wages are subject to nominal frictions, an increase in input prices such as energy can initiate a wage-price dynamics, as both nominal wages and prices adjust slowly. High inflation in prices and wages reduces welfare as it generates distributional effects and affects aggregate demand. To analyze optimal policy in this environment, we consider a heterogeneous-agent model, with both wage and price stickiness. We derive joint optimal fiscal-monetary policy, using a rich set of fiscal tools. We first identify the set of fiscal tools, which implements nominal price and wage stability as an optimal outcome. Starting from this equivalence result, we identify the key instrument for implementing price and wage stability, which appears to be a time-varying wage subsidy. We call this policy a non-Keynesian stabilization policy, as it does not directly channel through aggregate demand. We finally compare our results to those obtained in a representative-agent environment.

**Terms of trade are an inaccurate empirical proxy for how fluctuations in international prices affect the economy. To capture the relevance of terms of trade fluctuations for the domestic business cycle, the role of export and import prices needs to be analyzed separately. Using a sample of developing economies, we find that the economy’s response to a positive export price shock does not mirror the response to a negative import price shock. Taken together, export and import price shocks account for around 30 percent of output fluctuations, but export price shocks are more important than import price shocks as drivers of output. Global demand and supply shocks, which simultaneously affect export and import prices, are largely undetected in the terms-of-trade measure but significantly affect domestic business cycles. We link our results to existing small open economy models used to study the transmission of terms-of-trade shocks.