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Optimal Monetary Policy with r

Author

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  • Roberto M. Billi
  • Jordi Galí
  • Anton Nakov

Abstract

We study the optimal monetary policy problem in a New Keynesian economy with a zero lower bound (ZLB) on the nominal interest rate, and in which the steady state natural rate (r*) is negative. We show that the optimal policy aims to approach gradually a steady state with positive average inflation. Around that steady state, inflation and output fluctuate optimally in response to shocks to the natural rate. The central bank can implement that optimal outcome by means of an appropriate state-contingent rule, even though in equilibrium the nominal rate remains at zero most (or all) of the time. In order to establish that result, we derive sufficient conditions for local determinacy in a more general model with endogenous regime switches.

Suggested Citation

  • Roberto M. Billi & Jordi Galí & Anton Nakov, 2022. "Optimal Monetary Policy with r," Working Papers 1333, Barcelona School of Economics.
    • Handle: RePEc:bge:wpaper:1333
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    Cited by:

    1. Roberto M. Billi & Jordi Galí & Anton Nakov, 2022. "Optimal Monetary Policy with r," Working Papers 1333, Barcelona School of Economics.
    2. Lucian Briciu & Stefan Hohberger & Luca Onorante & Beatrice Pataracchia & Marco Ratto & Lukas Vogel, 2023. "The ECB Strategy Review - Implications for the Space of Monetary Policy," European Economy - Discussion Papers 193, Directorate General Economic and Financial Affairs (DG ECFIN), European Commission.
    3. Jean-Baptiste Michau, 2022. "The Trilemma for Low Interest Rate Macroeconomics," Working Papers 2022-19, Center for Research in Economics and Statistics.
    4. Billi, Roberto & Galí, Jordi & Nakov, Anton, 2024. "Optimal monetary policy with r∗<0," Journal of Monetary Economics, Elsevier, vol. 142(C).

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    More about this item

    Keywords

    zero lower bound; New Keynesian model; decline in r*; equilibrium determinacy; regime switching models; secular stagnation;
    All these keywords.

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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