Sinigaglia, Daniel (2008): Stabilizing Inflation under Heterogeneity: a welfare-based measure on what to target.
Download (288Kb) | Preview
What measure of inflation a Central Bank should respond to? This paper characterizes the optimal targeting index in a multisectorial economy with Calvo-pricing, defined as a composition of sectorial inflations that maximizes a selected welfare criterion. This is a purely quadratic approximation to the representative agent's utility in an environment of distorted steady state and sectorial heterogeneity of price stickiness. The Central Bank is modeled as following a historical Taylor Rule. For most parameter values, weights of sectorial inflations are increasing functions of the degrees of nominal rigidity and productivity volatility and decreasing functions of sectorial wage markup volatilities, resembling most of the conclusions from related literature. Bayesian estimation for the structural model using sectorial quantum and price indexes for Personal Consumption Expenditure (PCE) provides the parameter values that allow constructing the optimal index for the US economy. The result points out towards a price index with similar properties than the PCE, with more weight on services and less weight of inflation from durable goods. I find no evidence that a core index based on the exclusion of food and energy goods is welfare improving.
|Item Type:||MPRA Paper|
|Original Title:||Stabilizing Inflation under Heterogeneity: a welfare-based measure on what to target|
|Keywords:||Inflation Targeting; Heterogeneity of price stickiness; Optimal inflation measure|
|Subjects:||E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy|
|Depositing User:||Daniel Sinigaglia|
|Date Deposited:||19. Sep 2008 10:29|
|Last Modified:||14. Feb 2013 15:16|
Aoki, Kosuke. (2001). "Optimal monetary policy responses to relative price changes." Journal of Monetary Economics, 48, 55--80.
Benigno, Pierpaolo. (2004). "Optimal monetary policy in a currency area." Journal of International Economics, 63, 293-320.
Benigno, Pierpaolo and Michael Woodford . (2003). "Optimal Monetary and Fiscal Policy: A Linear-Quadratic Approach." NBER Working Papers 9905, July 2003.
Bils, Mark and Pete Klenow. (2004). "Some Evidence on the Importance of Sticky Prices." Journal of Political Economy, 112, 947-985.
Calvo, Guillermo. (1983). "Staggered prices in a utility-maximizing framework." Journal of Monetary Economics, 12, 382-398.
Dixit, Avinash K., and Joseph E. Stiglitz. (1977). "Monopolistic Competition and Optimum Product Diversity." American Economic Review, 67, 297-308.
Lucas, Robert E., and Nancy Stokey. (1983). "Optimal Fiscal and Monetary Policy in an Economy without Capital." Journal of Monetary Economics 12, 55-93.
Lucas, Robert E. (1987). "Models of Business Cycles." Basil Blackwell, New York, NY.
Mankiw, N. Gregory and Ricardo Reis. (2003). "What measure of inflation should a central bank target?" Journal of European Economic Association 1, 1058 - 1086.
Nakamura, Emi, and Jón Steinsson. (2008). "Five Facts about Prices: a Reevaluation of Menu Cost Models." Quarterly Journal of Economics, forthcoming.
Rotemberg, Julio J., and Michael Woodford. (1999). "The cyclical behavior of prices and costs". In Handbook of Macroeconomics, edition 1, vol. 1, edited by John B. Taylor and Michael Woodford, pp. 1051-1135. Elsevier.
Sargent, Thomas, and Neil Wallace. (1981). "Some Unpleasant Monetarist Arithmetic." Federal Reserve Bank of Minneapolis Quarterly Review, 5(Fall), 1-17.
Smets, Frank, and Rafael Wouters. (2005). "Comparing Shocks and Frictions in US and Euro Area Business Cycles: A Bayesian DSGE Approach." Journal of Applied Econometrics, 20, 161-185.
Schmitt-Grohé, Stephanie, and Martin Uribe. (2004). "Solving Dynamic General Equilibrium Models Using a Second-Order Approximation to the Policy Function." Journal of Economic Dynamics and Control, 28, 755-775.
Svensson, Lars (2003). "What Is Wrong with Taylor Rules? Using Judgment in Monetary Policy through Targeting Rules." Journal of Economic Literature. American Economic Association, 41(2), 426-477, June.
Steinsson, Jón. (2003). "Optimal monetary policy in an economy with inflation persistence." Journal of Monetary Economics, 50, 1425 - 1456.
Woodford, Michael. (1999). "Commentary: How Should Monetary Policy Be Conducted in an Era of Price Stability?". In: New Challenges for Monetary Policy, Federal Reserve Bank of Kansas City.
Woodford, Michael. (2003). Interest and Prices: Foundations of a Theory of Monetary Policy. Princeton, NJ: Princeton University Press.