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Nominal and Real Interest Rates during an Optimal Disinflation in New Keynesian Models

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  • Marcus Hagedorn
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    Abstract

    Central bankers' conventional wisdom suggests that nominal interest rates should be raised to implement a lower inflation target. In contrast, I show that the standard New Keynesian monetary model predicts that nominal interest rates should be decreased to attain this goal. Real interest rates, however, are virtually unchanged. These results also hold in recent vintages of New Keynesian models with sticky wages, price and wage indexation and habit formation in consumption.

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    Bibliographic Info

    Paper provided by Institute for Empirical Research in Economics - University of Zurich in its series IEW - Working Papers with number 352.

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    Date of creation: Dec 2007
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    Handle: RePEc:zur:iewwpx:352

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    Keywords: Disinflation; Optimal Monetary Policy; Nominal and Real Interest Rates;

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    1. Pierpaolo Benigno & Michael Woodford, 2008. "Linear-Quadratic Approximation of Optimal Policy Problems," Discussion Papers 0809-01, Columbia University, Department of Economics.
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    14. Marcus Hagedorn, 2006. "Liquidity, Inflation, and Monetary Policy," 2006 Meeting Papers 677, Society for Economic Dynamics.
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