The Four Equation New Keynesian Model

Eric R. Sims and Jing Cynthia Wu

No 26067, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper develops a New Keynesian model featuring financial intermediation, short and long term bonds, credit shocks, and scope for unconventional monetary policy. The log-linearized model reduces to four key equations – a Phillips curve, an IS equation, and policy rules for the short term nominal interest rate and the central bank's long bond portfolio (QE). The four equation model collapses to the standard three equation New Keynesian model under a simple parameter restriction. Credit shocks and QE appear in both the IS and Phillips curves. Optimal monetary policy entails adjusting the short term interest rate to offset natural rate shocks, but using QE to offset credit market disruptions. The ability of the central bank to engage in QE significantly mitigates the costs of a binding zero lower bound.

JEL-codes: E1 E50 E52 (search for similar items in EconPapers)
Date: 2019-07
New Economics Papers: this item is included in nep-dge, nep-mac and nep-mon
Note: EFG ME
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Citations: View citations in EconPapers (24)

Published as Eric Sims & Jing Cynthia Wu & Ji Zhang, 2023. "The Four-Equation New Keynesian Model," Review of Economics and Statistics, vol 105(4), pages 931-947.

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Journal Article: The Four-Equation New Keynesian Model (2023)
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