Monetary policy and the role of inventory investment

Margarita Rubio and Scott Schuh

Applied Economics Letters, 2017, vol. 24, issue 21, 1605-1612

Abstract: In this article, we develop a dynamic stochastic general equilibrium (DSGE) model with sticky prices and inventory investment to explore the relationship between inventories and monetary policy. We use the traditional inventory literature as a basis to motivate this extension of the benchmark model and propose inventories as a factor of production. Within this setting, we test the empirical findings in the literature that, since the mid-1980s, monetary policy changed its target towards the inventory component of GDP. We explore this idea in our theoretical model and conclude through simulations that this is a plausible complementary explanation for the reduction in output volatility that was observed during the Great Moderation period.

Date: 2017
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DOI: 10.1080/13504851.2017.1363855

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