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Monetary Policy in a Model of Growth

Albert Queraltó
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Albert Queraltó: https://www.federalreserve.gov/econres/albert-queralto.htm

No 1340, International Finance Discussion Papers from Board of Governors of the Federal Reserve System (U.S.)

Abstract: Empirical evidence suggests that recessions have long-run effects on the economy's productive capacity. Recent literature embeds endogenous growth mechanisms within business cycle models to account for these "scarring" effects. The optimal conduct of monetary policy in these settings, however, remains largely unexplored. This paper augments the standard sticky-price New Keynesian (NK) to allow for endogenous dynamics in aggregate productivity. The model has a representation similar to the two-equation NK model, with an additional condition linking productivity growth to current and expected future output gaps. Absent state contingency in the subsidies that correct the externalities associated with productivity growth, optimal monetary policy sets inflation above target whenever the subsidies fall short of the externalities. In the recovery from a spell at the ZLB, the optimal discretionary policy sets inflation temporarily above target, helping mitigate the long-run damage. Following a cost-push shock that creates inflationary pressure, the central bank tolerates a larger rise in inflation than in a model with exogenous productivity. The gains from commitment include the central bank's ability to make credible promises about future output gaps in a way that allows it to manipulate current productivity growth.

Keywords: Business cycles; Growth; Optimal monetary policy; Hysteresis; Scarring (search for similar items in EconPapers)
JEL-codes: E32 E43 E52 E58 O31 O42 (search for similar items in EconPapers)
Date: 2022-04-01
New Economics Papers: this item is included in nep-ban, nep-cba, nep-mac and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:fip:fedgif:1340

DOI: 10.17016/IFDP.2022.1340

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