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Two Pitfalls of Linearization Methods

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Author Info
JINILL KIM
SUNGHYUN HENRY KIM

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Abstract

This paper illustrates two types of pitfalls when linearization methods are improperly applied. First, if we linearize the constraints before deriving the optimality conditions, the derived conditions are not correct up to first order. Second, even when we obtain the behavior of the economy that is correct to the first order, applying this behavior to welfare implications may lead to incorrect results. We also review different ways to avoid those pitfalls. Copyright 2007 The Ohio State University.

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File URL: http://www.blackwell-synergy.com/doi/abs/10.1111/j.1538-4616.2007.00055.x
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Article provided by Blackwell Publishing in its journal Journal of Money, Credit and Banking.

Volume (Year): 39 (2007)
Issue (Month): 4 (06)
Pages: 995-1001
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Handle: RePEc:mcb:jmoncb:v:39:y:2007:i:4:p:995-1001

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Web page: http://www.blackwellpublishing.com/journal.asp?ref=0022-2879

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Kim, Jinill & Kim, Sunghyun Henry, 2003. "Spurious welfare reversals in international business cycle models," Journal of International Economics, Elsevier, vol. 60(2), pages 471-500, August. [Downloadable!] (restricted)
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  2. Kim, Jinill & Henderson, Dale W., 2005. "Inflation targeting and nominal-income-growth targeting: When and why are they suboptimal?," Journal of Monetary Economics, Elsevier, vol. 52(8), pages 1463-1495, November. [Downloadable!] (restricted)
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  3. Benigno, Pierpaolo & Woodford, Michael, 2006. "Linear-Quadratic Approximation of Optimal Policy Problems," CEPR Discussion Papers 5964, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  4. Pierpaolo Benigno & Michael Woodford, 2005. "Inflation Stabilization And Welfare: The Case Of A Distorted Steady State," Journal of the European Economic Association, MIT Press, vol. 3(6), pages 1185-1236, December. [Downloadable!] (restricted)
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  5. Benigno, Pierpaolo & Woodford, Michael, 2006. "Optimal taxation in an RBC model: A linear-quadratic approach," Journal of Economic Dynamics and Control, Elsevier, vol. 30(9-10), pages 1445-1489. [Downloadable!] (restricted)
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(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Benigno, Pierpaolo & Woodford, Michael, 2006. "Linear-Quadratic Approximation of Optimal Policy Problems," CEPR Discussion Papers 5964, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  2. Duval, Romain & Vogel, Lukas, 2007. "How do nominal and real rigidities interact? A tale of the second best," MPRA Paper 7282, University Library of Munich, Germany. [Downloadable!]
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