Optimal long-run inflation and the New Keynesian model

Dario Pontiggia ()

Journal of Macroeconomics, 2012, vol. 34, issue 4, 1077-1094

Abstract: Central banks typically have a long-run inflation target that is modestly positive. However, the standard New Keynesian framework prescribes that zero inflation is the optimal long-run target. In this paper, we show that when the baseline New Keynesian model is extended to allow for rule-of-thumb behavior by price setters, the optimality of zero long-run inflation ceases, and the monetary authority commits to a positive inflation target. The optimality of positive long-run inflation turns on the fact that the aggregate-supply relation does not imply an equivalence, up to first-order and regardless of policy, between the welfare-relevant measure of inflation and the discounted sequence of future output gaps.

Keywords: Optimal monetary policy; Inflation persistence; Phillips curve (search for similar items in EconPapers)
JEL-codes: E30 E52 (search for similar items in EconPapers)
Date: 2012
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Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jmacro:v:34:y:2012:i:4:p:1077-1094

DOI: 10.1016/j.jmacro.2012.07.003

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