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Strategic Complementarities and Optimal Monetary Policy

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  • Levin, Andrew
  • López-Salido, J David
  • Yun, Tack

Abstract

In this paper, we show that strategic complementarities--such as firm-specific factors or quasi-kinked demand--have crucial implications for the design of monetary policy and for the welfare costs of output and inflation variability. Recent research has mainly used log-linear approximations to analyze the role of these mechanisms in amplifying the real effects of monetary shocks. In contrast, our analysis explicitly considers the nonlinear properties of these mechanisms that are relevant for characterizing the deterministic steady state as well as the second-order approximation of social welfare in the stochastic economy. We demonstrate that firm-specific factors and quasi-kinked demand curves yield markedly different implications for the welfare costs of steady-state inflation and inflation volatility.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 6423.

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Date of creation: Aug 2007
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Handle: RePEc:cpr:ceprdp:6423

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Keywords: firm-specific factors; quasi-kinked demand; welfare analysis;

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Citations

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Cited by:
  1. Juergen von Hagen, 2008. "The Role of Contracting Schemes for Assessing the Welfare Costs of Nominal Rigidities," 2008 Meeting Papers 827, Society for Economic Dynamics.
  2. Tack Yun & Andrew Levin, 2009. "Reconsidering the Microeconomic Foundations of Price-Setting Behavior," 2009 Meeting Papers 798, Society for Economic Dynamics.
  3. Ippei Fujiwara & Yuki Teranishi, 2007. "A Dynamic New Keynesian Life-Cycle Model: Societal Ageing, Demographics and Monetary Policy," IMES Discussion Paper Series 07-E-04, Institute for Monetary and Economic Studies, Bank of Japan.
  4. Andrew T. Levin & J. David López-Salido & Edward Nelson & Tack Yun, 2008. "Macroeconometric equivalence, microeconomic dissonance, and the design of monetary policy," Working Papers 2008-035, Federal Reserve Bank of St. Louis.
  5. Furlanetto, Francesco & Seneca, Martin, 2014. "Investment shocks and consumption," European Economic Review, Elsevier, vol. 66(C), pages 111-126.
  6. Andrew T. Levin, 2008. "Commentary on "Optimal monetary policy under uncertainty: a Markov jump-linear-quadratic approach"," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 301-306.
  7. Argia M. Sbordone, 2007. "Globalization and Inflation Dynamics: the Impact of Increased Competition," NBER Working Papers 13556, National Bureau of Economic Research, Inc.
  8. Michael K. Johnston, 2009. "Real and Nominal Frictions within the Firm: How Lumpy Investment Matters for Price Adjustment," Working Papers 09-36, Bank of Canada.
  9. Amano, Robert & Moran, Kevin & Murchison, Stephen & Rennison, Andrew, 2009. "Trend inflation, wage and price rigidities, and productivity growth," Journal of Monetary Economics, Elsevier, vol. 56(3), pages 353-364, April.
  10. Riggi, Marianna & Tancioni, Massimiliano, 2010. "Nominal vs real wage rigidities in New Keynesian models with hiring costs: A Bayesian evaluation," Journal of Economic Dynamics and Control, Elsevier, vol. 34(7), pages 1305-1324, July.

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