Optimal monetary policy in a simple distorted economy

Marzo, Massimiliano (2004) Optimal monetary policy in a simple distorted economy. p. 27. DOI 10.6092/unibo/amsacta/1549.
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Abstract

In this paper I search for an optimal con�gurations of parameters for variants of the Taylor rule by using an Accurate Second-Order Welfare based method within a fully microfounded Dynamic Stochastic model, with price rigidities, without capital accu- mulation. Money is inserted via a transaction cost function, price rigidities are modelled via quadratic cost of price adjustment. A version of the model with distortionary taxation is also explicitly tested. The model is solved up to Second Order solution. Optimal rules are obtained by maximizing a conditional welfare measure, di¤erently from what has been done in the current literature. Optimal monetary policy functions turn out to be characterized by in�ation targeting parameter lower than in empirical studies. In general, the optimal values for moentary policy parameters depend from the degree of nominal rigidities and from the role of �scal policy. When nominal rigidities are higher, optimal monetary policy becomes more aggressive towards in�ation. With a tigther �scal policy, optimal monetary policy turns out to be less in�ation-aggressive. Moreover, the results show that relying conditional welfare mea- sure avoids the problems related with �rst-order or unconditional welfare measures. Impulse Response functions based on second order model solution show a non-a¢ ne pattern when the economy is hit by shocks of di¤erent magnitude.

Abstract
Document type
Monograph (Working Paper)
Creators
CreatorsAffiliationORCID
Marzo, Massimiliano
Keywords
inflation targeting, output targeting, welfare, nominal rigidities, distortionary taxation
Subjects
DOI
Deposit date
15 Feb 2006
Last modified
17 Feb 2016 14:32
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