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Nominal and Real Interest Rates during an Optimal Disinflation in New Keynesian Models

  • Marcus Hagedorn

Central bankers' conventional wisdom suggests that nominal interest rates should be raised to implement a lower inflation target. In contrast, I show that the standard New Keynesian monetary model predicts that nominal interest rates should be decreased to attain this goal. Real interest rates, however, are virtually unchanged. These results also hold in recent vintages of New Keynesian models with sticky wages, price and wage indexation and habit formation in consumption.

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Paper provided by Institute for Empirical Research in Economics - University of Zurich in its series IEW - Working Papers with number 352.

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Date of creation: Dec 2007
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Handle: RePEc:zur:iewwpx:352
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  14. Peter N. Ireland, 1995. "Optimal disinflationary paths," Working Paper 95-01, Federal Reserve Bank of Richmond.
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  16. Laurence Ball, 1990. "Credible Disinflation with Staggered Price Setting," NBER Working Papers 3555, National Bureau of Economic Research, Inc.
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  18. Giorgio Primiceri, 2005. "Why Inflation Rose and Fell: Policymakers' Beliefs and US Postwar Stabilization Policy," NBER Working Papers 11147, National Bureau of Economic Research, Inc.
  19. Marcus Hagedorn, 2006. "Liquidity, Inflation, and Monetary Policy," 2006 Meeting Papers 677, Society for Economic Dynamics.
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