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Does monetary expansion improve welfare under habit formation?

  • Wataru Johdo


    (Tezukayama University)

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    This paper studies how introducing habit formation to the two-sector small open economy model of Obstfeld and Rogoff (1995) and Lane (1997) affects the impact of a monetary surprise on welfare. In this model with endogenous habit formation, we examine agents' responses to a monetary expansion shock, taking into account the negative effect of habit formation on future consumption utility. We show that when habit formation is relatively important in the utility function, the monetary expansion decreases welfare.

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    Article provided by AccessEcon in its journal Economics Bulletin.

    Volume (Year): 33 (2013)
    Issue (Month): 3 ()
    Pages: 1959-1968

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    Handle: RePEc:ebl:ecbull:eb-13-00403
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    1. Obstfeld, Maurice & Rogoff, Kenneth, 1995. "Exchange Rate Dynamics Redux," Journal of Political Economy, University of Chicago Press, vol. 103(3), pages 624-60, June.
    2. Christopher D Carroll, 2000. "Solving Consumption Models with Multiplicative Habits," Economics Working Paper Archive 421, The Johns Hopkins University,Department of Economics.
    3. Lane, P, 1999. "The New Open Economy Macroeconomics: A Survey," Trinity Economics Papers 993, Trinity College Dublin, Department of Economics.
    4. Ferson, Wayne E. & Constantinides, George M., 1991. "Habit persistence and durability in aggregate consumption: Empirical tests," Journal of Financial Economics, Elsevier, vol. 29(2), pages 199-240, October.
    5. Lawrance, Emily C, 1991. "Poverty and the Rate of Time Preference: Evidence from Panel Data," Journal of Political Economy, University of Chicago Press, vol. 99(1), pages 54-77, February.
    6. Lane, Philip R., 1997. "Inflation in open economies," Journal of International Economics, Elsevier, vol. 42(3-4), pages 327-347, May.
    7. G. Constantinides, 1990. "Habit formation: a resolution of the equity premium puzzle," Levine's Working Paper Archive 1397, David K. Levine.
    8. Trostel, Philip A & Taylor, Grant A, 2001. "A Theory of Time Preference," Economic Inquiry, Western Economic Association International, vol. 39(3), pages 379-95, July.
    9. Christopher D. Carroll & Jody Overland & David N. Weil, 1995. "Saving and growth with habit formation," Finance and Economics Discussion Series 95-42, Board of Governors of the Federal Reserve System (U.S.).
    10. Graham, Liam, 2008. "Consumption habits and labor supply," Journal of Macroeconomics, Elsevier, vol. 30(1), pages 382-395, March.
    11. Andrew A. Samwick, 1997. "Discount Rate Heterogeneity and Social Security Reform," NBER Working Papers 6219, National Bureau of Economic Research, Inc.
    12. Jeffrey C. Fuhrer, 2000. "Habit Formation in Consumption and Its Implications for Monetary-Policy Models," American Economic Review, American Economic Association, vol. 90(3), pages 367-390, June.
    13. Faria, Joao Ricardo, 2001. "Habit formation in a monetary growth model," Economics Letters, Elsevier, vol. 73(1), pages 51-55, October.
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