Rule-of-thumb Consumers, Consumption Habits and the Taylor Principle
We show that the combination rule-of-thumb consumers and consump- tion habits dramatically aspects the dynamic performance of DSGE mod- els, resurrecting Bilbiie's (2008) inverted Taylor principle. Another origi- nal contribution of the paper is the analysis of optimal operational simple rules when RT households and habit formation in consumption are taken into account. We are able to show that the higher the share of RT con- sumers the more important for the optimal monetary policy is the stabi- lization of the wage gap, the variable that drives consumption volatility for RT consumers. The combination of consumption habits and RT con- sumers aspect the dynamic performance of the model under the optimal simple rule. Even a relatively small share of RT consumers is sufficient to generate a substantial increase in volatility. When the share of RT con- sumers is sufficiently large to require an inversion of the Taylor principle to preserve dynamic stability, optimal monetary policy is forced to gen- erate some "unconventional" impulse-response functions. For instance, a favourable productivity shock is followed by an increase in inflation and by a positive output gap.
|Date of creation:||Jul 2010|
|Date of revision:||Jul 2010|
|Contact details of provider:|| Postal: |
Phone: +39 02 6448 3089
Fax: +39 02 6448 3085
Web page: http://dems.unimib.it
More information through EDIRC
When requesting a correction, please mention this item's handle: RePEc:mib:wpaper:194. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Matteo Pelagatti)
If references are entirely missing, you can add them using this form.