How should monetary policy respond to changes in the relative price of oil? Considering supply and demand shocks

Michael Plante

Journal of Economic Dynamics and Control, 2014, vol. 44, issue C, 1-19

Abstract: This paper examines optimal monetary policy in a New Keynesian model where supply and demand shocks affect the price of oil. Optimal policy fully stabilizes core inflation when wages are flexible. The nominal rate rises (falls) in response to the demand (supply) shock. With sticky wages core inflation falls (rises) in response to the demand (supply) shock. Impulse response functions from a VAR estimated with post-1986 U.S. data show minimal movement in core inflation in response to both shocks. The federal funds rate rises (falls) in response to the demand (supply) shock, consistent with the predictions from the theoretical model for policy that stabilizes core inflation.

Keywords: Oil prices; Optimal monetary policy; Inflation; Interest rates (search for similar items in EconPapers)
JEL-codes: E31 E52 Q43 (search for similar items in EconPapers)
Date: 2014
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Citations: View citations in EconPapers (27)

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Related works:
Working Paper: How should monetary policy respond to changes in the relative price of oil? considering supply and demand shocks (2012)
Working Paper: How Should Monetary Policy Respond to Changes in the Relative Price of Oil? Considering Supply and Demand Shocks (2009)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:44:y:2014:i:c:p:1-19

DOI: 10.1016/j.jedc.2014.04.002

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