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The Implementation of Stabilization Policy

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  • Olivier Loisel

    ()
    (CREST)

Abstract

This paper addresses the issue of what path for the economy a policymaker can implement as the unique local equilibrium, given her observation set. I consider a broad class of locally linearizable dynamic stochastic discrete-time infinite-horizon rational-expectations models, which includes most existing DSGE models. I consider various alternative observation sets for the policymaker, depending on what she observes of the private sector's actions, its expectations, and exogenous shocks, and allowing for observation lags of any length. For each observation set and any local path that is consistent with the structural equations and this observation set, I provide conditions for the existence of a policy- instrument rule that is consistent with this observation set and implements that path as the unique local equilibrium. I also show how to design this rule arithmetically, and thus obtain its coefficients as rational functions of the parameters of the model and path considered. I apply these results to, and derive some of their implications for, the implementation of optimal monetary policy, monetary policy based on constant-interest-rate forecasts, debt-stabilizing tax policy, and optimal tax policy

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Bibliographic Info

Paper provided by Centre de Recherche en Economie et Statistique in its series Working Papers with number 2013-24.

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Length: 58
Date of creation: Dec 2013
Date of revision:
Handle: RePEc:crs:wpaper:2013-24

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Related research

Keywords: dynamic stochastic rational-expectations models; stabilization policy; local equilibrium de- terminacy; local path implementation;

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References

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  1. Svensson, Lars E. O., 1999. "Inflation targeting as a monetary policy rule," Journal of Monetary Economics, Elsevier, vol. 43(3), pages 607-654, June.
  2. Bennett T. McCallum, 1982. "Price Level Determinacy with an Interest Rate Policy Rule and Rational Expectations," NBER Working Papers 0559, National Bureau of Economic Research, Inc.
  3. Marc P. Giannoni & Michael Woodford, 2012. "Optimal target criteria for stabilization policy," Staff Reports 535, Federal Reserve Bank of New York.
  4. Schmitt-Grohe, Stephanie & Uribe, Martin, 1997. "Balanced-Budget Rules, Distortionary Taxes, and Aggregate Instability," Journal of Political Economy, University of Chicago Press, vol. 105(5), pages 976-1000, October.
  5. Lars E. O. Svensson, 2003. "What is Wrong with Taylor Rules? Using Judgment in Monetary Policy through Targeting Rules," NBER Working Papers 9421, National Bureau of Economic Research, Inc.
  6. William Poole, 1970. "Optimal choice of monetary policy instruments in a simple stochastic macro model," Staff Studies 57, Board of Governors of the Federal Reserve System (U.S.).
  7. Lars E. O. Svensson, 1996. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," NBER Working Papers 5797, National Bureau of Economic Research, Inc.
  8. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
  9. Benhabib, Jess, 2004. "Interest Rate Policy in Continuous Time with Discrete Delays," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(1), pages 1-15, February.
  10. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "Monetary policy rules and macroeconomic stability: Evidence and some theory," Economics Working Papers 350, Department of Economics and Business, Universitat Pompeu Fabra, revised May 1999.
  11. Klein, Paul, 2000. "Using the generalized Schur form to solve a multivariate linear rational expectations model," Journal of Economic Dynamics and Control, Elsevier, vol. 24(10), pages 1405-1423, September.
  12. Robert G. King & Alexander L. Wolman, 2004. "Monetary discretion, pricing complementarity and dynamic multiple equilibria," International Finance Discussion Papers 802, Board of Governors of the Federal Reserve System (U.S.).
  13. Marc P. Giannoni & Michael Woodford, 2003. "Optimal Interest-Rate Rules: I. General Theory," NBER Working Papers 9419, National Bureau of Economic Research, Inc.
  14. Michael Woodford, 2007. "Forecast Targeting as a Monetary Policy Strategy: Policy Rules in Practice," NBER Working Papers 13716, National Bureau of Economic Research, Inc.
  15. Athanasios Orphanides, 1998. "Monetary policy rules based on real-time data," Finance and Economics Discussion Series 1998-03, Board of Governors of the Federal Reserve System (U.S.).
  16. Marc Paolo Giannoni & Michael Woodford, 2003. "How forward-looking is optimal monetary policy?," Proceedings, Federal Reserve Bank of Cleveland, pages 1425-1483.
  17. Karel Mertens & Morten O. Ravn, 2012. "Empirical Evidence on the Aggregate Effects of Anticipated and Unanticipated US Tax Policy Shocks," American Economic Journal: Economic Policy, American Economic Association, vol. 4(2), pages 145-81, May.
  18. Lawrence J. Christiano & Massimo Rostagno, 2001. "Money Growth Monitoring and the Taylor Rule," NBER Working Papers 8539, National Bureau of Economic Research, Inc.
  19. Loisel, Olivier, 2009. "Bubble-free policy feedback rules," Journal of Economic Theory, Elsevier, vol. 144(4), pages 1521-1559, July.
  20. Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 83(2), pages 241-54, April.
  21. Leitemo, Kai, 2003. " Targeting Inflation by Constant-Interest-Rate Forecasts," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 35(4), pages 609-26, August.
  22. John H. Cochrane, 2011. "Determinacy and Identification with Taylor Rules," Journal of Political Economy, University of Chicago Press, vol. 119(3), pages 565 - 615.
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