Resolving New Keynesian Anomalies with Wealth in the Utility Function

Pascal Michaillat and Emmanuel Saez

Santa Cruz Department of Economics, Working Paper Series from Department of Economics, UC Santa Cruz

Abstract: At the zero lower bound, the New Keynesian model predicts that output and inflation collapse to implausibly low levels and that government spending and forward guidance have implausibly large effects. To resolve these anomalies, we introduce wealth into the utility function; the justification is that wealth is a marker of social status, and people value status. Since people partly save to accrue social status, the Euler equation is modified. As a result, when the marginal utility of wealth is sufficiently large, the dynamical system representing the zero-lower-bound equilibrium transforms from a saddle to a source, which resolves all the anomalies.

Keywords: Economics; Economic Theory; Applied Economics; Econometrics; Banking; finance and investment; Applied economics (search for similar items in EconPapers)
Date: 2021-05-14
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Related works:
Journal Article: Resolving New Keynesian Anomalies with Wealth in the Utility Function (2021)
Working Paper: Resolving New Keynesian Anomalies with Wealth in the Utility Function (2019)
Working Paper: Resolving New Keynesian Anomalies with Wealth in the Utility Function (2019)
Working Paper: Resolving New Keynesian Anomalies with Wealth in the Utility Function (2018)
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