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Quantifying and sustaining welfare gains from monetary commitment

  • Levine, Paul
  • McAdam, Peter
  • Pearlman, Joseph

Our objectives are: to quantify the stabilization welfare gains from commitment; to examine how commitment to an optimal rule can be sustained as an equilibrium; to find a simple interest rate rule that approximates the optimal commitment one. We utilize an empirical micro-founded euro-area DSGE model, a quadratic approximation of household utility as the welfare criterion, employing a nominal interest rate lower bound. In contrast to previous studies, we find significant commitment stabilization gains of around a 0.4-0.5% equivalent permanent consumption increase, and with higher price stickiness gains over 2%. We find that a simple optimized commitment rule responding to inflation and the real wage mimics the optimal one.

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Article provided by Elsevier in its journal Journal of Monetary Economics.

Volume (Year): 55 (2008)
Issue (Month): 7 (October)
Pages: 1253-1276

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Handle: RePEc:eee:moneco:v:55:y:2008:i:7:p:1253-1276
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