Optimising indexation arrangements under Calvo contracts and their implications for monetary policy

Vo Phuong Mai Le and A. Patrick Minford

No E2007/7, Cardiff Economics Working Papers from Cardiff University, Cardiff Business School, Economics Section

Abstract: This paper investigates optimal indexation in the New Keynesian model, when the indexation choice includes the possibility of partial indexation and of varying weights on rational and lagged indexation. It finds that the Calvo contract adjusted for rationally expected indexation under both inflation and price level targeting regimes delivers the highest expected welfare under both restricted and full current information. Rational indexation eliminates the effectiveness of monetary policy on welfare when there is only price-level targeting under the current micro information. If including both wage setting and full current information, monetary policy is effective,and a price-level targeting rule delivers the highest benefits because it minimises the size of shocks to prices and thus dispersion. However, even less than full rational indexation ensures that there is very little nominal rigidity in the adapted world of Calvo contracts.

Keywords: optimal indexation; price-level target; inflation target; Calvo contracts; rational expectation; New Keynesian model (search for similar items in EconPapers)
JEL-codes: E50 E52 (search for similar items in EconPapers)
Pages: 21 pages
Date: 2007-03
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Related works:
Working Paper: Optimising Indexation Arrangements under Calvo Contracts and their Implications for Monetary Policy (2007)
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