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Inflation and output in New Keynesian models with a transient interest rate peg

  • Carlstrom, Charles T
  • Fuerst, Timothy S
  • Paustian, Matthias

    ()

    (Federal Reserve Bank of Cleveland)

Recent monetary policy experience suggests a simple diagnostic for models of monetary non-neutrality. Suppose the central bank pegs the nominal interest rate below steady state for a reasonably short period of time. Familiar intuition suggests that this should be modestly inflationary, and a reasonable model should deliver such a prediction. We pursue this simple diagnostic in several variants of the familiar Dynamic New Keynesian (DNK) model. Some variants of the model produce counterintuitive inflation reversals where the effect of the interest rate peg can switch from highly inflationary to highly deflationary for only modest changes in the length of the interest rate peg. Curiously, this unusual behavior does not arise in a sticky information model of the Phillips curve.

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File URL: https://www.clevelandfed.org/~/media/Files/Working%20Papers/wp2012/wp1234-inflation-and-output-in-new-keynesian-models-with-a-transient-interst-rate-peg.pdf?la=en
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Paper provided by Federal Reserve Bank of Cleveland in its series Working Paper with number 1234.

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Length: 30 pages
Date of creation: 2012
Date of revision:
Handle: RePEc:fip:fedcwp:1234
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  1. Stephanie Schmitt-Grohe & Martin Uribe, 2005. "Optimal Fiscal and Monetary Policy in a Medium-Scale Macroeconomic Model: Expanded Version," NBER Working Papers 11417, National Bureau of Economic Research, Inc.
  2. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
  3. Smets, Frank & Wouters, Raf, 2007. "Shocks and frictions in US business cycles: a Bayesian DSGE approach," Working Paper Series 0722, European Central Bank.
  4. R. Anton Braun & Lena Mareen Körber, 2011. "New Keynesian dynamics in a low interest rate environment," Working Paper 2011-10, Federal Reserve Bank of Atlanta.
  5. Lawrence Christiano & Martin Eichenbaum & Sergio Rebelo, 2011. "When Is the Government Spending Multiplier Large?," Journal of Political Economy, University of Chicago Press, vol. 119(1), pages 78 - 121.
  6. Blake, Andrew, 2012. "Fixed interest rates over finite horizons," Bank of England working papers 454, Bank of England.
  7. Andrew Levin & David López-Salido & Edward Nelson & Yack Yun, 2010. "Limitations on the Effectiveness of Forward Guidance at the Zero Lower Bound," International Journal of Central Banking, International Journal of Central Banking, vol. 6(1), pages 143-189, March.
  8. Laséen, Stefan & Svensson, Lars E.O., 2011. "Anticipated Alternative Policy-Rate Paths in Policy Simulations," Working Paper Series 248, Sveriges Riksbank (Central Bank of Sweden).
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