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Robust Monetary Policy in the New-Keynesian Framework

  • Kai Leitemo
  • Ulf Soderstrom

We study the effects of model uncertainty in a simple New-Keynesian model using robust control techniques. Due to the simple model structure, we are able to find closed-form solutions for the robust control problem, analyzing both instrument rules and targeting rules under different timing assumptions. In all cases but one, an increased preference for robustness makes monetary policy respond more aggressively to cost shocks but leaves the response to demand shocks unchanged. As a consequence, inflation is less volatile and output is more volatile than under the non-robust policy. Under one particular timing assumption, however, increasing the preference for robustness has no effect on the optimal targeting rule (nor on the economy).

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Paper provided by IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University in its series Working Papers with number 273.

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Date of creation: 2004
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Handle: RePEc:igi:igierp:273
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  1. Marc P. Giannoni & Michael Woodford, 2003. "Optimal Interest-Rate Rules: I. General Theory," NBER Working Papers 9419, National Bureau of Economic Research, Inc.
  2. Paloviita , Maritta & Mayes , David, 2004. "The use of real time information in Phillips curve relationships for the euro area," Research Discussion Papers 16/2004, Bank of Finland.
  3. Leitemo, Kai & Söderström , Ulf, 2004. "Robust monetary policy in the New-Keynesian framework," Research Discussion Papers 31/2004, Bank of Finland.
  4. Herrendorf, Berthold & Teixeira, Arilton, 2004. "Monopoly rights can reduce income big time," Research Discussion Papers 7/2004, Bank of Finland.
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  6. Marvin Goodfriend & Robert King, 1997. "The New Neoclassical Synthesis and the Role of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 231-296 National Bureau of Economic Research, Inc.
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  8. Castrén, Olli & Takalo, Tuomas & Wood, Geoffrey, 2004. "Labour market reform and the sustainability of exchange rate pegs," Working Paper Series 0406, European Central Bank.
  9. Allen Berger & Iftekhar Hasan & Leora Klapper, 2004. "Further Evidence on the Link between Finance and Growth: An International Analysis of Community Banking and Economic Performance," Journal of Financial Services Research, Springer, vol. 25(2), pages 169-202, April.
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  12. Walsh, Carl E, 2004. "Robustly Optimal Instrument Rules and Robust Control: An Equivalence Result," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(6), pages 1105-13, December.
  13. Kauppi , Heikki & Koskela , Erkki & Stenbacka , Rune, 2004. "Equilibrium unemployment and investment under product and labour market imperfections," Research Discussion Papers 11/2004, Bank of Finland.
  14. David G. Mayes, 2004. "An approach to bank insolvency in transition and emerging economies," Finance 0404015, EconWPA.
  15. Paloviita , Maritta, 2002. "Inflation dynamics in the euro area and the role of expectations," Research Discussion Papers 20/2002, Bank of Finland.
  16. Carl E. Walsh, 2003. "Monetary Theory and Policy, 2nd Edition," MIT Press Books, The MIT Press, edition 2, volume 1, number 0262232316, June.
  17. Söderström, Ulf, 2000. "Monetary policy with uncertain parameters," Working Paper Series 0013, European Central Bank.
  18. Craine, Roger, 1979. "Optimal monetary policy with uncertainty," Journal of Economic Dynamics and Control, Elsevier, vol. 1(1), pages 59-83, February.
  19. Marc Giannoni & Michael Woodford, 2004. "Optimal Inflation-Targeting Rules," NBER Chapters, in: The Inflation-Targeting Debate, pages 93-172 National Bureau of Economic Research, Inc.
  20. Jokivuolle , Esa & Lanne , Markku, 2004. "Trading Nokia: The roles of the Helsinki vs the New York stock exchanges," Research Discussion Papers 26/2004, Bank of Finland.
  21. Martin Ellison & Lucio Sarno & Jouko Vilmunen, 2004. "Monetary policy and learning in an open economy," Macroeconomics 0404022, EconWPA.
  22. Schaling , Eric & Eijffinger , Sylvester & Tesfaselassie , Mewael, 2004. "Heterogeneous information about the term structure, least-squares learning and optimal rules for inflation targeting," Research Discussion Papers 23/2004, Bank of Finland.
  23. Leitemo , Kai & Söderström , Ulf, 2005. "Robust monetary policy in a small open economy," Research Discussion Papers 20/2005, Bank of Finland.
  24. Hyytinen, Ari & Takalo , Tuomas, 2004. "Multihoming in the market for payment media: evidence from young Finnish consumers," Research Discussion Papers 25/2004, Bank of Finland.
  25. Giordani, Paolo & Söderlind, Paul, 2002. "Solution of Macromodels with Hansen-Sargent Robust Policies: Some Extensions," SSE/EFI Working Paper Series in Economics and Finance 499, Stockholm School of Economics, revised 15 May 2003.
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  29. Rautureau, Nicolas, 2004. "Measuring the long-term perception of monetary policy and the term structure," Research Discussion Papers 12/2004, Bank of Finland.
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