Optimal monetary policy in a new Keynesian model with animal spirits and financial markets

Matthias Lengnick and Hans-Werner Wohltmann

No 2014-12, Economics Working Papers from Christian-Albrechts-University of Kiel, Department of Economics

Abstract: This paper relates to the literature on macro-finance-interaction models. We modify the boundedly rational New Keynesian model of De Grauwe (2010a) using a completely microfounded IS equation, and combine it with the agent-based financial market model of Westerhoff (2008). For this purpose we derive four interactive channels between the financial and real sector where two channels are strictly microfounded. We analyze the impact of the different channels on economic stability and derive optimal (simple) monetary policy rules. We find that coefficients of optimal simple Taylor rules do not significantly change if financial market stabilization becomes part of the central bank's objective function. Additionally, we show that rule-based, backward-looking monetary policy creates huge instabilities if expectations are boundedly rational.

Keywords: agent-based financial markets; New Keynesian macroeconomics; microfoundation; optimal monetary policy; unconventional monetary policy (search for similar items in EconPapers)
JEL-codes: E03 E5 G02 (search for similar items in EconPapers)
Date: 2014
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (7)

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Journal Article: Optimal monetary policy in a new Keynesian model with animal spirits and financial markets (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:cauewp:201412

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