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Campbell Leith
- 20 July 2009
- WORKING PAPER SERIES - No. 1076Details
- Abstract
- While consumption habits have been utilised as a means of generating a hump shaped output response to monetary policy shocks in sticky-price New Keynesian economies, there is relatively little analysis of the impact of habits (particularly, external habits) on optimal policy. In this paper we consider the implications of external habits for optimal monetary policy, when those habits either exist at the level of the aggregate basket of consumption goods ('superficial' habits) or at the level of individual goods ('deep' habits: see Ravn, Schmitt-Grohe, and Uribe (2006)). External habits generate an additional distortion in the economy, which implies that the flex-price equilibrium will no longer be efficient and that policy faces interesting new trade-offs and potential stabilisation biases. Furthermore, the endogenous mark-up behaviour, which emerges when habits are deep, can also significantly affect the optimal policy response to shocks, as well as dramatically affecting the stabilising properties of standard simple rules.
- JEL Code
- E30 : Macroeconomics and Monetary Economics→Prices, Business Fluctuations, and Cycles→General
E5 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit
E61 : Macroeconomics and Monetary Economics→Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook→Policy Objectives, Policy Designs and Consistency, Policy Coordination
- 27 June 2006
- WORKING PAPER SERIES - No. 649Details
- Abstract
- This paper develops a small New Keynesian model with capital accumulation and government debt dynamics. The paper discusses the design of simple monetary and fiscal policy rules consistent with determinate equilibrium dynamics in the absence of Ricardian equivalence. Under this assumption, government debt turns into a relevant state variable which needs to be accounted for in the analysis of equilibrium dynamics. The key analytical finding is that without explicit reference to the level of government debt it is not possible to infer how strongly the monetary and fiscal instruments should be used to ensure determinate equilibrium dynamics. Specifically, we identify in our model discontinuities associated with threshold values of steady-state debt, leading to qualitative changes in the local determinacy requirements. These features extend the logic of Leeper (1991) to an environment in which fiscal policy is non-neutral. Naturally, this non-neutrality increases the importance of fiscal aspects for the design of policy rules consistent with determinate dynamics.
- JEL Code
- E52 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Monetary Policy
E63 : Macroeconomics and Monetary Economics→Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook→Comparative or Joint Analysis of Fiscal and Monetary Policy, Stabilization, Treasury Policy