Optimal fiscal and monetary policy in customer markets

David Arseneau and Sanjay Chugh

No 919, International Finance Discussion Papers from Board of Governors of the Federal Reserve System (U.S.)

Abstract: A growing body of evidence suggests that ongoing relationships between consumers and firms may be important for understanding price dynamics. We investigate whether the existence of such customer relationships has important consequences for the conduct of both long-run and short-run policy. Our central result is that when consumers and firms are engaged in long-term relationships, the optimal rate of price inflation volatility is very low even though all prices are completely flexible. This finding is in contrast to those obtained in first-generation Ramsey models of optimal fiscal and monetary policy, which are based on Walrasian markets. Echoing the basic intuition of models based on sticky prices, unanticipated inflation in our environment causes a type of relative price distortion across markets. Such distortions stem from fundamental trading frictions that give rise to long-lived customer relationships and makes pursuing inflation stability optimal.

Keywords: Inflation (Finance); Monetary policy (search for similar items in EconPapers)
Date: 2008
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Citations: View citations in EconPapers (7)

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Related works:
Journal Article: Optimal Fiscal and Monetary Policy in Customer Markets (2015)
Working Paper: Optimal Fiscal and Monetary Policy in Customer Markets (2013)
Working Paper: Optimal Fiscal and Monetary Policy in Customer Markets (2008)
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Persistent link: https://EconPapers.repec.org/RePEc:fip:fedgif:919

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