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Deep Habits, Nominal Rigidities and Interest Rate Rules

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  • Zubairy, Sarah

Abstract

This paper explores how the introduction of deep habits in a standard new-Keynesian model affects the properties of widely used interest rate rules. In particular, an interest rate rule satisfying the Taylor principle is no longer a su±cient condition to guarantee determinacy. Including interest rate smoothing and a response to output deviations from steady state significantly improve the regions of determinacy. However, under all the simple interest rate rules considered here with contemporaneous variables, determinacy is not guaranteed for very high degree of deep habits. The intuition behind these findings is tied to how deep habits give rise to counter-cyclical markups, a property that makes it an appealing feature in the study of demand shocks.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 26053.

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Date of creation: 18 Aug 2010
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Handle: RePEc:pra:mprapa:26053

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Keywords: Taylor principle; interest rate rules; sticky prices; deep habits;

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  1. Clarida, Richard & Galí, Jordi & Gertler, Mark, 1998. "Monetary Policy Rules and Macroeconomic Stability: Evidence and Some Theory," CEPR Discussion Papers, C.E.P.R. Discussion Papers 1908, C.E.P.R. Discussion Papers.
  2. Jordi Gali & J. David Lopez-Salido & Javier Valles, 2004. "Rule-of-Thumb Consumers and the Design of Interest Rate Rules," NBER Working Papers 10392, National Bureau of Economic Research, Inc.
  3. Leith, Campbell & Moldovan, Ioana & Rossi, Raffaele, 2009. "Optimal monetary policy in a new Keynesian model with habits in consumption," Working Paper Series, European Central Bank 1076, European Central Bank.
  4. Morten Ravn & Stephanie Schmitt-Grohe & Martin Uribe, 2004. "Deep Habits," NBER Working Papers 10261, National Bureau of Economic Research, Inc.
  5. Sveen, Tommy & Weinke, Lutz, 2005. "New perspectives on capital, sticky prices, and the Taylor principle," Journal of Economic Theory, Elsevier, Elsevier, vol. 123(1), pages 21-39, July.
  6. Michael Woodford, 2001. "The Taylor Rule and Optimal Monetary Policy," American Economic Review, American Economic Association, American Economic Association, vol. 91(2), pages 232-237, May.
  7. Zubairy, Sarah, 2010. "Explaining the Effects of Government Spending Shocks," MPRA Paper 26051, University Library of Munich, Germany.
  8. Athanasios Orphanides, 1998. "Monetary policy rules based on real-time data," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 1998-03, Board of Governors of the Federal Reserve System (U.S.).
  9. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 39(1), pages 195-214, December.
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Cited by:
  1. Leith, Campbell & Moldovan, Ioana & Rossi, Raffaele, 2009. "Optimal monetary policy in a new Keynesian model with habits in consumption," Working Paper Series, European Central Bank 1076, European Central Bank.
  2. Punnoose Jacob, 2013. "Deep habits, price rigidities and the consumption response to Government spending," Reserve Bank of New Zealand Discussion Paper Series DP2013/03, Reserve Bank of New Zealand.
  3. Campbell Leith & Ioana Moldovan & Raffaele Rossi, 2012. "Online Appendix to "Optimal Monetary Policy in a New Keynesian Model with Habits in Consumption"," Technical Appendices 09-154, Review of Economic Dynamics.

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