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Inflation/Output Variance Trade-Offs and Optimal Monetary Policy

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  • Fuhrer, Jeffrey C

Abstract

The author estimates the inflation/output-gap variance trade-off faced by monetary policymakers in the United States. For policymakers who care about deviations of inflation around target and output around potential, the estimated trade-off represents the 'optimal policy frontier.' Given the structure of the economy, policymakers can do no better than to attain weighted variances of inflation and output that lie on the frontier. The author finds that the variance trade-off becomes quite severe when the standard deviation of inflation or output drops much below 2 percent. This suggests that approximately balanced responses to policy goals are consistent with reasonable preferences over inflation and output variability. Copyright 1997 by Ohio State University Press.

Suggested Citation

  • Fuhrer, Jeffrey C, 1997. "Inflation/Output Variance Trade-Offs and Optimal Monetary Policy," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 29(2), pages 214-234, May.
  • Handle: RePEc:mcb:jmoncb:v:29:y:1997:i:2:p:214-34
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    References listed on IDEAS

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    1. Abel, Andrew B, 1990. "Asset Prices under Habit Formation and Catching Up with the Joneses," American Economic Review, American Economic Association, vol. 80(2), pages 38-42, May.
    2. Bowman, David & Minehart, Debby & Rabin, Matthew, 1993. "Loss Aversion in a Savings Model," Department of Economics, Working Paper Series qt0gf4p3ts, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
    3. Attanasio, Orazio P., 1995. "The intertemporal allocation of consumption: theory and evidence," Carnegie-Rochester Conference Series on Public Policy, Elsevier, pages 39-56.
    4. Attanasio, Orazio P & Browning, Martin, 1995. "Consumption over the Life Cycle and over the Business Cycle," American Economic Review, American Economic Association, vol. 85(5), pages 1118-1137, December.
    5. Eberly, Janice C, 1994. "Adjustment of Consumers' Durables Stocks: Evidence from Automobile Purchases," Journal of Political Economy, University of Chicago Press, vol. 102(3), pages 403-436, June.
    6. Joseph G. Altonji & Aloysius Siow, 1987. "Testing the Response of Consumption to Income Changes with (Noisy) Panel Data," The Quarterly Journal of Economics, Oxford University Press, vol. 102(2), pages 293-328.
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