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Optimal Simple Nonlinear Rules for Monetary Policy in a New-Keynesian Model

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  • Paolo Zagaglia

    ()
    (Department of Economics Stockholm University)

  • Massimiliano Marzo

    (University of Bologna)

  • Ingvar Strid

    (Stockholm School of Economics)

Abstract

We study the role of nonlinear simple rules for monetary policy. We depart from the standard rules proposed by Taylor (1993), and consider a nonlinear rule for the so-called opportunistic approach to disinflation originally proposed by Orphanides and Wilcox (2002) and Aksoy, Orphanides, Small, Wieland, and Wilcox (2002). We set out a model economy with capital accumulation and nominal and real rigidities. Households have weakly-separable preferences along the lines of Chari, Kehoe, and McGrattan (2000). The public sector is modeled as a simple rule for lump-sum taxes like in Leeper (1991). We include three sources of exogenous fluctuations in the form of stochastic shocks to productivity, firms’ markup and government spending. We solve the model through the second-order Taylor approach developed by Schmitt-Grohé and Uribe (2004), and maximize a measure of conditional consumer welfare. Our microfounded model represents an improvement over the framework used by Aksoy, Orphanides, Small, Wieland, and Wilcox (2002). Our results support the view that optimal opportunistic monetary policy involves a strong anti-inflationary stance outside the zone of policy inaction, indicating that a large degree of nonlinearity can be desirable from a welfare perspective. We also compare the quantitative and qualitative properties of the model economy under the optimal nonlinear rule with those arising from optimized linear rules.

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Bibliographic Info

Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2006 with number 392.

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Date of creation: 04 Jul 2006
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Handle: RePEc:sce:scecfa:392

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Keywords: monetary policy; opportunistic approach to disinflation; numerical methods;

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