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The optimal inflation buffer with a zero bound on nominal interest rates

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  • Billi, Roberto M.

Abstract

This paper characterizes the optimal inflation buffer consistent with a zero lower bound on nominal interest rates in a New Keynesian sticky-price model. It is shown that a purely forward-looking version of the model that abstracts from inflation inertia would significantly underestimate the inflation buffer. If the central bank follows the prescriptions of a welfaretheoretic objective, a larger buffer appears optimal than would be the case employing a traditional loss function. Taking also into account potential downward nominal rigidities in the price-setting behavior of firms appears not to impose significant further distortions on the economy.

Suggested Citation

  • Billi, Roberto M., 2004. "The optimal inflation buffer with a zero bound on nominal interest rates," CFS Working Paper Series 2005/17, Center for Financial Studies (CFS).
    • Handle: RePEc:zbw:cfswop:200517
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    More about this item

    Keywords

    Inflation Inertia; Downward Nominal Rigidity; Nonlinear Policy; Liquidity Trap;
    All these keywords.

    JEL classification:

    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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