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Optimal Monetary Policy and Expectation Driven Business Cycles

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  • Guo, Shen
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Abstract

We explore the optimal response of central bank when a news shock hits the economy, that is, agents’ optimistic expectation of an improvement in technology does not realize. Ramsey optimal policy and simple policy rules are studied in a two-sector model with price rigidities in each of non-durable and durable sector. We find that a simple policy rule reacting to the inflation rates in both non-durable and durable sector with appropriate weights can mimic the performance of the Ramsey policy closely. Another interesting result is that monetary policy plays an important role in generating expectation driven business cycles.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 1928.

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Date of creation: 10 Feb 2007
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Handle: RePEc:pra:mprapa:1928

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Keywords: News shocks; Expectation driven business cycles; Optimal monetary policy;

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Cited by:
  1. Fève, Patrick & Matheron, Julien & Sahuc, Jean-Guillaume, 2009. "On the dynamic implications of news shocks," Economics Letters, Elsevier, vol. 102(2), pages 96-98, February.
  2. Beaudry, Paul & Portier, Franck, 2013. "News Driven Business Cycles: Insights and Challenges," CEPR Discussion Papers 9624, C.E.P.R. Discussion Papers.

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