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Rule-of-Thumb Consumers and the Design of Interest Rate Rules

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  • Jordi Galí
  • J. David Pérez-Salido
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    Abstract

    We introduce rule-of-thumb consumers in an otherwise standard dynamic sticky price model, and show how their presence can change dramatically the properties of widely used interest rate rules. In particular, the existence of a unique equilibrium is no longer guaranteed by an interest rate rule that satisfies the so called Taylor principle. Our findings call for caution when using estimates of interest rate rules in order to assess the merits of monetary policy in specific historical periods.

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    File URL: http://research.barcelonagse.eu/tmp/working_papers/104.pdf
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    Bibliographic Info

    Paper provided by Barcelona Graduate School of Economics in its series Working Papers with number 104.

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    Date of creation: Dec 2003
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    Handle: RePEc:bge:wpaper:104

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    Related research

    Keywords: Taylor principle; interest rate rules; sticky prices; rule-of-thumb consumers;

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    References

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    1. John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1, May.
    2. Yun, Tack, 1996. "Nominal price rigidity, money supply endogeneity, and business cycles," Journal of Monetary Economics, Elsevier, vol. 37(2-3), pages 345-370, April.
    3. John B. Taylor, 1999. "A Historical Analysis of Monetary Policy Rules," NBER Chapters, in: Monetary Policy Rules, pages 319-348 National Bureau of Economic Research, Inc.
    4. Rochelle M. Edge & Jeremy B. Rudd, 2002. "Taxation and the Taylor principle," Finance and Economics Discussion Series 2002-51, Board of Governors of the Federal Reserve System (U.S.).
    5. Kaushik Mitra & James Bullard, . "Learning About Monetary Policy Rules," Discussion Papers 00/41, Department of Economics, University of York.
    6. Roisland, Oistein, 2003. "Capital income taxation, equilibrium determinacy, and the Taylor principle," Economics Letters, Elsevier, vol. 81(2), pages 147-153, November.
    7. John B. Taylor, 1999. "Introduction to "Monetary Policy Rules"," NBER Chapters, in: Monetary Policy Rules, pages 1-14 National Bureau of Economic Research, Inc.
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    Cited by:
    1. Florin O. Bilbie, 2005. "Limited Asset Markets Participation, Monetary Policy and (Inverted) Keynesian Logic," Economics Series Working Papers 2005-W09, University of Oxford, Department of Economics.
    2. Bilbiie, Florin O., 2004. "The great inflation, limited asset markets participation and aggregate demand: FED policy was better than you think," Working Paper Series 0408, European Central Bank.
    3. Galí, Jordi & Lopez-Salido, Jose David & Vallés Liberal, Javier, 2004. "Rule-of-Thumb Consumers and the Design of Interest Rate Rules," CEPR Discussion Papers 4347, C.E.P.R. Discussion Papers.
    4. Camelia Ioana Ucenic & Laura Bacali, 2008. "The Impact Of It Advance Of Smes� For The Romanian Economy," Working Papers 0804, University of Crete, Department of Economics.
    5. Lutz Weinke & Tommy Sveen, 2003. "Inflation and output dynamics with firm-owned capital," Economics Working Papers 702, Department of Economics and Business, Universitat Pompeu Fabra.
    6. Tommy Sveen & Lutz Weinke, 2004. "New Perspectives on Capital and Sticky Prices," Working Paper 2004/03, Norges Bank.
    7. Di Bartolomeo, Giovanni & Manzo, Marco, 2007. "Do tax distortions lead to more indeterminacy? A New Keynesian perspective," MPRA Paper 3549, University Library of Munich, Germany.
    8. Giovanni Di Bartolomeo & Lorenzo Rossi & Massimiliano Tancioni, 2006. "Monetary Policy under Rule-of-Thumb Consumers and External Habits: An International Empirical Comparison," Working Papers 97, University of Rome La Sapienza, Department of Public Economics.

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