An economical business-cycle model

Breaking through the zero lower bound

Pascal Michaillat and Emmanuel Saez

Oxford Economic Papers, 2022, vol. 74, issue 2, 382-411

Abstract: This article develops a new model of business cycles. The model is economical in that it is solved with an aggregate demand–aggregate supply diagram, and the effects of shocks and policies are obtained by comparative statics. The model builds on two unconventional assumptions. First, producers and consumers meet through a matching function. Thus, the model features unemployment, which fluctuates in response to aggregate demand and supply shocks. Secondly, wealth enters the utility function, so the model allows for permanent zero-lower-bound episodes. In the model, the optimal monetary policy is to set the interest rate at the level that eliminates the unemployment gap. This optimal interest rate is computed from the prevailing unemployment gap and monetary multiplier (the effect of the nominal interest rate on the unemployment rate). If the unemployment gap is exceedingly large, monetary policy cannot eliminate it before reaching the zero lower bound, but a wealth tax can.

JEL-codes: E19 E24 E32 E43 E52 E62 E71 (search for similar items in EconPapers)
Date: 2022
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Citations: View citations in EconPapers (10)

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Related works:
Working Paper: An Economical Business-Cycle Model (2021)
Working Paper: An Economical Business-Cycle Model (2014)
Working Paper: An economical business-cycle model (2014)
Working Paper: An Economical Business-Cycle Model (2014)
Working Paper: An Economical Business-Cycle Model (2014)
Working Paper: An Economical Business-Cycle Model (2014)
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