Ana Paula Ribeiro () (CEMPRE and Faculdade de Economia, Universidade do Porto)
Abstract
Although central banks often advocate labor market reforms, the latter may lead to higher stabilization costs in the presence of habit persistence in consumption. This is more likely to occur when strong habit persistence is coupled with an inflation-averse central bank. The presence of habit formation is a non-negligible assumption: theoretically, it is now a well-established device used in New-Keynesian models in order to be data-consistent with the response of real spending to several shocks. Moreover, estimates of habit formation are, according to the literature, quite large. To capture the interactions between monetary policy and structural reforms, our model improves on the one presented in Aguiar and Ribeiro (2008) by including a job matching process that introduces additional labor market features through which a labor market reform can operate. Within this framework, we assess, across different policy rules, how labor market institutional changes impinge on the effectiveness of monetary policy. We have concluded that labor market reform reduces central banks' losses, as long as the degree of habit persistence is not too strong; however, alternative reform devices impinge differently on monetary policy effectiveness. Moreover, the inflation targeting rule accommodates positive permanent effects from the reform for a wider range of habit persistence. Even when habit persistence is high, reform may still reduce stabilization costs if the importance of both demand and technology shocks is low relative to cost-push ones.
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Publisher Info
Paper provided by Universidade do Porto, Faculdade de Economia do Porto in its series FEP Working Papers with number
309.
Find related papers by JEL classification: E24 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
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