Hostname: page-component-78c5997874-xbtfd Total loading time: 0 Render date: 2024-11-14T01:25:32.115Z Has data issue: false hasContentIssue false
  • English
  • Français

MONETARY POLICY OVER TIME

Published online by Cambridge University Press:  23 March 2006

VITOR GASPAR ,
FRANK SMETS  and
DAVID VESTIN
VITOR GASPAR
Affiliation:
Banco de Portugal
FRANK SMETS
Affiliation:
European Central Bank
DAVID VESTIN
Affiliation:
European Central Bank
Get access Rights & Permissions [Opens in a new window]

Abstract

Progress in stochastic macroeconomic modeling justifies revisiting Milton Friedman's program on the relation between macroeconomic stability and active stabilization policies. In the lecture, we use a standard new Keynesian model but depart from rational expectations by assuming that agents behave in line with adaptive learning, which increase the potential for instability in the economy.

Optimal policy under adaptive learning displays some similarity with optimal policy under commitment in the rational expectations setting. Specifically, we find that optimal policy responds in a persistent manner when expectations threaten to become unhinged. Finally, we illustrate the dynamics associated with the change from a simple regime that ignores the expectation formation, to the optimal policy that does. The results are not unlike the behavior of the U.S. economy around the Volcker transition (October 1979).

Type
OSWALD DISTINGUISHED PUBLIC LECTURE
Information
Macroeconomic Dynamics , Volume 10 , Issue 2 , April 2006 , pp. 207 - 229
Copyright
© 2006 Cambridge University Press

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Barro Robert J. and David B. Gordon 1983a A positive theory of monetary policy in a natural rate model. Journal of Political Economy 91, 589– 610.Google Scholar
Barro Robert J. and David B. Gordon 1983b Rules, discretion and reputation in a model of monetary policy. Journal of Monetary Economics 12, 101– 121.Google Scholar
Bullard James and Kaushik Mitra 2002 Learning about monetary policy rules. Journal of Monetary Economics 49, 1105– 1129.Google Scholar
Calvo Guillermo 1983 Staggered prices in a utility-maximizing framework. Journal of Monetary Economics 12, 383– 398.Google Scholar
Christiano Lawrence J., Martin Eichenbaum, and Charles Evans 2005 Nominal rigidities and the dynamic effects of a shock to monetary policy. Journal of Political Economy, forthcoming.Google Scholar
Clarida Richard, Jordi Galí, and Mark Gertler 1999 The science of monetary policy: a new Keynesian perspective. Journal of Economic Literature 37, 1661– 1707.Google Scholar
Dixit Avinash K. and Joseph E. Stiglitz 1977 Monopolistic competition and optimum product diversity. American Economic Review 67, 297– 308.Google Scholar
Evans George W. and Seppo Honkapohja 1998 Economic dynamics with learning: new stability results. Review of Economic Studies 6, 23– 44.Google Scholar
Evans George W. and Seppo Honkapohja 2001 Learning and Expectations in Macroeconomics. Princeton: Princeton University Press.
Friedman Milton 1968 The role of monetary policy. American Economic Review 58, 1– 17.Google Scholar
Gaspar Vitor and Frank Smets 2002 Monetary policy, price stability and output gap stabilisation International Finance 5, 193– 202.Google Scholar
Gaspar Vitor, Frank Smets, and David Vestin 2005, Monetary policy under adaptive learning. Paper presented at the Workshop “The Implications of Uncertainty and Learning for Monetary Policy,” University Center, UC Santa Cruz, April 1.
Judd Kenneth L. 1998 Numerical Methods in Economics. Cambridge, MA: MIT Press.
Kydland Finn E. and Edward C. Prescott 1977 Rules rather than discretion: the inconsistency of optimal plans Journal of Political Economy 85, 3.Google Scholar
Lindsey David, Athanasios Orphanides, and Robert H. Rasche, 2005 The reform of October 1979: how it happenned and why. Finance and Economics Discussion Series 2, Federal Reserve Board.
Lucas Robert 1976 Econometric policy evaluation: a critique. In Karl Brunner and Alan Meltzer (eds.), The Phillips Curve and Labor Markets, vol. 1 of Carnegie-Rochester Conference Series on Public Policy, 19–46. Amsterdam: North-Holland Publishing Company.
McCallum Bennet T. 2005 A Monetary Policy Rule for Automatic Prevention of a Liquidity Trap. NBER Working Paper 11056.Google Scholar
Machiavelli Niccoló 1996 Discourses on Livy, trans. Harvey Mansfield and Nathan Tarcov. Chicago: University of Chicago Press.
Marcet A. and T. Sargent 1989 Convergence of least-squares learning mechanisms in self-referential linear stochastic models. Journal of Economic Theory 48, 337– 368.Google Scholar
Miranda Mario J. and Paul Fackler 2002 Applied Computational Economics and Finance. Cambridge, MA: MIT Press.
Muth John 1961 Rational expectations and the theory of price movements. Econometrica 29, 315– 335.Google Scholar
Orphanides Athanasios 2001 Monetary Policy Rules, Macroeconomic Stability and Inflation: A View from the Trenches. ECB Working Paper Series 115.Google Scholar
Orphanides Athanasios 2002 Monetary policy rules and the great inflation. American Economic Review 92, 115– 120.Google Scholar
Orphanides Athanasios 2003a Monetary policy evaluation with noisy information. Journal of Monetary Economics 50, 605– 631.Google Scholar
Orphanides Athanasios 2003b The quest for prosperity without inflation. Journal of Monetary Economics 50, 633– 663.Google Scholar
Orphanides Athanasios and John C. Williams 2002a Imperfect Knowledge, Inflation Expectations, and Monetary Policy. FEDS Paper 2002-27.Google Scholar
Orphanides Athanasios and John C. Williams 2002b Robust monetary policy rules with unknown natural rates. Brookings Papers on Economic Activity, 63– 118.Google Scholar
Orphanides Athanasios and John C. Williams 2003b Inflation Scares and Forecast-Based Monetary Policy. FEDS Paper 2003-41.Google Scholar
Orphanides Athanasios and John C. Williams 2003 The Decline of Activist Stabilization Policy: Natural Rate Misperceptions, Learning and Expectations. Presented at the International Research Forum on Monetary Policy, November 14 and 15, 2003.Google Scholar
Orphanides Athanasios and Simon Van Norden 2002 The unreliability of output gap estimates in real time. Review of Economics and Statistics 84, 569– 583.Google Scholar
Orphanides Athanasios and John Williams 2003a Monetary policy evaluation with noisy information. Journal of Monetary Economics 50, 605– 631.Google Scholar
Orphanides Athanasios and John Williams 2003b The quest for prosperity without inflation. Journal of Monetary Economics 50, 633– 663.Google Scholar
Orphanides Athanasios and John Williams 2003c Inflation Scares and Forecast-Based Monetary Policy. FEDS Paper 2003-41.Google Scholar
Orphanides Athanasios and John Williams 2003d The Decline of Activist Stabilization Policy, Natural Rate Misperceptions, Learning and Expectations. Presented at the International Research Forum on Monetary Policy, November 14 and 15, 2003.Google Scholar
Orphanides Athanasios and John Williams 2004 Robust Monetary Policy with Imperfect Knowledge. Paper presented at the ECB Conference, Monetary Policy and Imperfect Knowledge, October 14–15.Google Scholar
Phillips A.W. 1958 The relation between unemployment and the rate of change in money wage rates in the United Kingdom 1861–1957 Economica 25, 283– 294.Google Scholar
Sargent Thomas 1993 Bounded Rationality in Macroeconomics. Oxford: Oxford University Press.
Sargent Thomas 1999 The Conquest of American Inflation. Princeton: Princeton University Press.
Smets F. and R. Wouters 2003 An estimated dynamic stochastic general equilibrium model of the Euro area. Journal of the European Economic Association 1, 1123– 1175.Google Scholar
Steinsson Jon 2003 Optimal monetary policy in an economy with inflation persistence. Journal of Monetary Economics 50, 1425– 1456.Google Scholar
Volcker Paul 1978 The Rediscovery of the Business Cycle. London: Free Press.
Woodford Michael 2003 Interest and Prices: Foundations of a Theory of Monetary Policy. Princeton: Princeton University Press.