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A wedge in the dual mandate: monetary policy and long-term unemployment

  • Rudebusch, Glenn D.

    ()

    (Federal Reserve Bank of San Francisco)

  • Williams, John C.

    ()

    (Federal Reserve Bank of San Francisco)

In standard macroeconomic models, the two objectives in the Federal Reserve’s dual mandate—full employment and price stability—are closely intertwined. We motivate and estimate an alternative model in which long-term unemployment varies endogenously over the business cycle but does not affect price inflation. In this new model, an increase in long-term unemployment as a share of total unemployment creates short-term tradeoffs for optimal monetary policy and a wedge in the dual mandate. In particular, faced with high long-term unemployment following the Great Recession, optimal monetary policy would allow inflation to overshoot its target more than in standard models.

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Paper provided by Federal Reserve Bank of San Francisco in its series Working Paper Series with number 2014-14.

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Length: 26 pages
Date of creation: May 2014
Date of revision:
Handle: RePEc:fip:fedfwp:2014-14
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  1. Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
  2. Glenn D. Rudebusch & Lars E. O. Svensson, 1998. "Policy rules for inflation targeting," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  3. Robert J. Gordon, 2013. "The Phillips Curve is Alive and Well: Inflation and the NAIRU During the Slow Recovery," NBER Working Papers 19390, National Bureau of Economic Research, Inc.
  4. Daniel Aaronson & Bhashkar Mazumder & Shani Schechter, 2010. "What is behind the rise in long-term unemployment?," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q II, pages 28-51.
  5. Glenn D. Rudebusch, 2005. "Monetary policy inertia: fact or fiction?," Working Paper Series 2005-19, Federal Reserve Bank of San Francisco.
  6. Fuhrer, Jeffrey C. & Rudebusch, Glenn D., 2004. "Estimating the Euler equation for output," Journal of Monetary Economics, Elsevier, vol. 51(6), pages 1133-1153, September.
  7. Manning, Neil, 1994. "Are Higher Long-Term Unemployment Rates Associated with Lower Earnings?," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 56(4), pages 383-97, November.
  8. Stefan Eriksson & Dan-Olof Rooth, 2014. "Do Employers Use Unemployment as a Sorting Criterion When Hiring? Evidence from a Field Experiment," American Economic Review, American Economic Association, vol. 104(3), pages 1014-39, March.
  9. Neil Manning, 1994. "Are Higher Long‐Term Unemployment Rates Associated With Lower Earnings?," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 56(4), pages 383-397, November.
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