The optimal inflation target and the natural rate of interest
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- dc.contributor.author Andrade, Philippe
- dc.contributor.author Galí, Jordi, 1961-
- dc.contributor.author Le Bihan, Hervé
- dc.contributor.author Matheron, Julien
- dc.date.accessioned 2021-04-08T12:55:09Z
- dc.date.available 2021-04-08T12:55:09Z
- dc.date.issued 2019-10-07
- dc.description.abstract We study how changes in the steady-state real interest rate (henceforth, r*) affect the optimal inflation target in a New Keynesian DSGE model with trend inflation and a lower bound on the nominal interest rate. In this setup, a lower r* increases the probability of hitting the lower bound. That effect can be counteracted by an increase in the inflation target, but the resulting higher steady-state inflation has a welfare cost in and of itself. We use an estimated DSGE model to quantify that trade-off and determine the implied optimal inflation target, conditional on the monetary policy rule in place before the financial crisis. The relation between r* and the optimal inflation target is downward sloping. While the increase in the optimal inflation rate is in general smaller than the decline in r*, in the currently empirically relevant region the slope of the relation is found to be close to −1. That slope is robust to allowing for parameter uncertainty. Under “make-up” strategies such as price level targeting, the optimal inflation target is significantly lower, and less sensitive to r*.ca
- dc.format.mimetype application/pdf*
- dc.identifier.uri http://hdl.handle.net/10230/47056
- dc.language eng
- dc.language.iso engca
- dc.rights.accessRights info:eu-repo/semantics/openAccessca
- dc.subject.other Inflation targetca
- dc.subject.other Effective lower boundca
- dc.subject.other Natural interest rateca
- dc.subject.other Steady-state real interest rateca
- dc.title The optimal inflation target and the natural rate of interestca
- dc.type info:eu-repo/semantics/workingPaperca