Loss Aversion and the Asymmetric Transmission of Monetary Policy
AbstractThere is widespread evidence that monetary policy exerts asymmetric effects on output over contractions and expansions in economic activity, while price responses display no sizeable asymmetry. To rationalize these facts we develop a dynamic general equilibrium model where households' utility depends on consumption deviations from a reference level below which loss aversion is displayed. In line with the prospect theory pioneered by Kahneman and Tversky (1979), losses in consumption loom larger than gains. State-dependent degrees of real rigidity and elasticity of intertemporal substitution in consumption generate competing effects on output and infl?ation. The resulting state-dependent trade-off between output and infl?ation stabilization recommends stronger policy activism towards in?flation during expansions
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Bibliographic InfoPaper provided by University of Copenhagen. Department of Economics in its series Discussion Papers with number 12-21.
Length: 39 pages
Date of creation: 16 Jul 2012
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Asymmetry; Monetary Policy; Business Cycle; Prospect Theory;
Find related papers by JEL classification:
- E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
- E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
- D03 - Microeconomics - - General - - - Behavioral Economics; Underlying Principles
- D11 - Microeconomics - - Household Behavior - - - Consumer Economics: Theory
This paper has been announced in the following NEP Reports:
- NEP-ALL-2012-12-06 (All new papers)
- NEP-CBA-2012-12-06 (Central Banking)
- NEP-DGE-2012-12-06 (Dynamic General Equilibrium)
- NEP-MAC-2012-12-06 (Macroeconomics)
- NEP-MON-2012-12-06 (Monetary Economics)
- NEP-UPT-2012-12-06 (Utility Models & Prospect Theory)
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