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Using a projection method to analyze inflation bias in a micro-founded model

  • Anderson, Gary S.
  • Kim, Jinill
  • Yun, Tack

Since Kydland and Prescott (1977) and Barro and Gordon (1983), most studies of the problem of the inflation bias associated with discretionary monetary policy have assumed a quadratic loss function. We depart from the conventional linear-quadratic approach in favor of a projection method approach. We investigate the size of the inflation bias that arises in a microfounded nonlinear environment with Calvo price setting. The inflation bias is found to lie between 1% and 6% for a reasonable range of parameter values, when the bias is defined as the steady-state deviation of the discretionary inflation rate from the optimal inflation rate under commitment.

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Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 34 (2010)
Issue (Month): 9 (September)
Pages: 1572-1581

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Handle: RePEc:eee:dyncon:v:34:y:2010:i:9:p:1572-1581
Contact details of provider: Web page: http://www.elsevier.com/locate/jedc

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