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Endogenous Monetary Policy Regime Change

  • Troy Davig


    (Federal Reserve Bank of Kansas City)

  • Eric M. Leeper


    (Indiana University Bloomington)

This paper makes changes in monetary policy rules (or regimes) endogenous. Changes are triggered when certain endogenous variables cross specified thresholds. Rational expectations equilibria are examined in three models of threshold switching to illustrate that (i) expectations formation effects generated by the possibility of regime change can be quantitatively important; (ii) symmetric shocks can have asymmetric effects; (iii) endogenous switching is a natural way to formally model preemptive policy actions. In a conventional calibrated model, preemptive policy shifts agents’ expectations, enhancing the ability of policy to offset demand shocks; this yields a quantitatively significant “preemption dividend.”

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Paper provided by Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington in its series Caepr Working Papers with number 2006-002.

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Length: 36 pages
Date of creation: Aug 2006
Date of revision:
Handle: RePEc:inu:caeprp:2006002
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