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This paper examines the welfare implications of a nominal GDP growth targeting rule, a nominal GDP level targeting rule, and inflation targeting regime in a New Keynesian model featuring positive trend inflation, two measures of w...
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This paper examines the welfare implications of a nominal GDP growth targeting rule, a nominal GDP level targeting rule, and inflation targeting regime in a New Keynesian model featuring positive trend inflation, two measures of welfare, and both high and low growth environments. The paper finds that (i) in general, nominal GDP growth targeting dominates other rules with changes in all dimensions; (ii) nominal GDP growth targeting framework is superior to the level targeting regime for most scenarios; (iii) inflation targeting is preferred to nominal GDP level targeting regime, but to minimize short-run fluctuations, the latter is advantageous; (iv) nominal GDP level targeting may be desirable only in a low growth environment with both low inflation indexation and consumption equivalence criteria. The simulation results provide solid evidence to policy makers on the desirability of nominal GDP growth targeting.
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Some economists advocate nominal GDP targeting as an alternative to the Taylor Rule. These arguments are largely based on the idea that nominal GDP targeting would require less knowledge on the part of policymakers than a traditio...
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Some economists advocate nominal GDP targeting as an alternative to the Taylor Rule. These arguments are largely based on the idea that nominal GDP targeting would require less knowledge on the part of policymakers than a traditional Taylor Rule. In particular, a nominal GDP targeting rule would not require real-time knowledge of the output gap. We examine the importance of this claim by amending a standard New Keynesian model to assume that the central bank has imperfect information about the output gap and therefore must forecast the output gap based on previous information. Forecast errors by the central bank can then potentially induce unanticipated changes in the short-term nominal interest rate, distinct from a standard monetary policy shock. We show that forecast errors of the output gap by the Federal Reserve can account for up to 13% of the fluctuations in the output gap. In addition, our simulations imply that a nominal GDP targeting rule would produce lower volatility in both inflation and the output gap in comparison with the Taylor Rule under imperfect information.
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This paper examines a nominal GDP growth targeting (NGDP-GT) rule, two Taylor types of rules and a strict inflation targeting regime in a New Keynesian model with the assumption of a positive rate of trend inflation. The model ado...
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This paper examines a nominal GDP growth targeting (NGDP-GT) rule, two Taylor types of rules and a strict inflation targeting regime in a New Keynesian model with the assumption of a positive rate of trend inflation. The model adopts a trend total factor productivity (TFP) growth to compare monetary policies in both high and low growth environments. Policy rankings are affected by the level of trend growth, the level of partial indexation to inflation and different specifications of the Taylor rule. NGDP-GT either outperforms other regimes or is weakly dominated by a desirable policy. Specifically, from the stability perspective, NGDP-GT is preferred compared to a Taylor type of rule and a strict inflation targeting regime in stabilizing the economy. It reduces inflation volatility by 25% or more while performs almost as well in stabilizing output and consumption relative to the Taylor rule. It produces at least 27% less fluctuations in output and consumption, and is almost as well as inflation targeting in stabilizing inflation. From the welfare perspective, when the Taylor rule takes the simple form, inflation targeting is the least desirable framework and NGDP-GT is weakly dominated by the Taylor rule. The conclusions are not conditioning on the trend growth rate or the level of inflation indexation. However, if the Taylor rule takes the form that interest rate responds to deviations of inflation and output growth (TR-II), when a TFP shock hits the economy and trend growth rate A = 1, TR-II generates of the least welfare loss and NGDP-GT performs almost as well. When trend growth rate A not equal 1, NGDP-GT is the most desirable policy regime. When the economy is subject to a markup shock, and A >= 1 and (or) partial indexation to inflation eta = 1, TR-II dominates the other two regimes. For other cases, NGDP-GT is the desirable policy rule. (C) 2020 Board of Trustees of the University of Illinois. Published by Elsevier Inc. All rights reserved.
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Benhabib and Farmer show that in a laissez-faire one-sector real business cycle model under aggregate increasing returns, under sufficiently high degrees of productive externality, the demand-side effect in the labor market trigge...
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Benhabib and Farmer show that in a laissez-faire one-sector real business cycle model under aggregate increasing returns, under sufficiently high degrees of productive externality, the demand-side effect in the labor market triggered by agents' expectations about the economy's future outweighs the supply-side effect, making agents' expectations become self-fulfilling. This paper analytically demonstrates that the conduct of monetary policy under nominal gross domestic product (GDP) targeting reinforces the supply-side effect in the labor market, thereby making belief-driven aggregate fluctuations more difficult to occur. This reinforcement effect on labor supply is absent under nominal consumption targeting and inflation targeting. Hence, under these two monetary regimes, the necessary and sufficient conditions for the economy to display equilibrium indeterminacy and sunspot fluctuations are identical to those in Benhabib and Farmer's laissez-faire economy. The results are robust to an endogenous growth extension of the model, implying that targeting the nominal GDP growth rate is more desirable than targeting the nominal consumption growth rate or the inflation rate in terms of macroeconomic stability.
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In response to the ongoing discussion in the literature of the appropriate framework for monetary policy, we compare two of the most frequently discussed alternatives to inflation targeting-targeting either the level of nominal GD...
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In response to the ongoing discussion in the literature of the appropriate framework for monetary policy, we compare two of the most frequently discussed alternatives to inflation targeting-targeting either the level of nominal GDP or the price level-within the context of a simple vector autoregressive (VAR) model. Our approach can be considered a constrained-discretion approach. The model is estimated using quarterly data over the period 1979:4-2003:4, a period in which the economy was buffeted by substantial supply and demand shocks. The paths of the federal funds rate, nominal GDP, real GDP, and the price level under nominal GDP and price level targeting are simulated over the 2004:1-2006:4 period. We evaluate nominal GDP and price level targeting by computing the values of simple loss functions. The loss function values indicate that closely targeting the path of nominal GDP based on 4.5% desired growth in nominal GDP produces noticeably lower losses in the simulation period than either price level targeting or a continuation of the implicit flexible inflation targeting monetary policy that characterized the estimation period.
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Although a number of economists have tried to revive the idea of nominal GDP targeting since the financial crisis of 2008, very little has been said about how this objective might be achieved in practice. This paper adopts and ext...
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Although a number of economists have tried to revive the idea of nominal GDP targeting since the financial crisis of 2008, very little has been said about how this objective might be achieved in practice. This paper adopts and extends a strategy first outlined by Holbrook Working and later employed in the P-Star model. It presents a series of theoretical and empirical results to argue that Divisia monetary aggregates can be controlled by the Federal Reserve and that the trend velocities of these aggregates exhibit the stability required to make long-run targeting of a nominal objective feasible.
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This paper studies fiscal policy in a model with nominal gross domestic product (GDP) targeting. We find that, with wage rigidity, nominal GDP targeting generates lower welfare losses than inflation targeting and a Taylor rule. On...
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This paper studies fiscal policy in a model with nominal gross domestic product (GDP) targeting. We find that, with wage rigidity, nominal GDP targeting generates lower welfare losses than inflation targeting and a Taylor rule. On the other hand, adopting this regime makes standard fiscal policy rules, whereby distortionary tax rates are designed to respond to economic activity, dependent on the behavior of inflation instead. We also find that the fiscal multipliers with nominal GDP targeting are smaller than the multipliers under inflation targeting and the Taylor rule. Therefore, nominal GDP targeting does not necessarily outperform other monetary policy rules.
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In the literature on monetary economics, there is the 'inflationary bias' result which predicts that the rate of inflation will be biased towards a higher level under discretionary monetary policy than under a rule-based policy re...
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In the literature on monetary economics, there is the 'inflationary bias' result which predicts that the rate of inflation will be biased towards a higher level under discretionary monetary policy than under a rule-based policy regime. It is established that a credible nominal target can eliminate this 'inflationary bias'. In this paper, we examine the case of nominal GDP targeting, which is a rule-based monetary regime. Depending on the degree of conservativeness by the central bank, we show in a stylized model the choice of different combination of inflation and real GDP targets can still result in an 'inflationary bias', and there also exists the possibility of a 'dis-inflationary bias'.
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We study monetary policy when private credit markets are incomplete. The macroeconomy we study has a large private credit market, in which participant households use non-state contingent nominal contracts (NSCNC). A second, small ...
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We study monetary policy when private credit markets are incomplete. The macroeconomy we study has a large private credit market, in which participant households use non-state contingent nominal contracts (NSCNC). A second, small group of households only uses cash, supplied by the monetary authority, and cannot participate in the credit market. There is an aggregate shock. We find that, despite the substantial heterogeneity, the monetary authority can provide for optimal risk-sharing in the private credit market and thus overcome the NSCNC friction via a counter-cyclical price level rule. The counter-cyclical price level rule is not unique. To pin down a unique monetary policy rule, we consider two secondary goals for the monetary authority, (i) expected inflation targeting and, (ii) nominal GDP targeting. We examine the impact of each of these approaches on the price level rule and other nominal variables in the economy. (C) 2019 Elsevier B.V. All rights reserved.
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Using a VAR model in first differences with quarterly data for the euro zone, the study aims to ascertain whether decisions on monetary policy can be interpreted in terms of a monetary policy rule with specific reference to the so...
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Using a VAR model in first differences with quarterly data for the euro zone, the study aims to ascertain whether decisions on monetary policy can be interpreted in terms of a monetary policy rule with specific reference to the so-called nominal GDP targeting rule (Hall and Mankiw, 1994; McCallum, 1988; Woodford, 2012). The results obtained indicate a causal relation proceeding from deviation between the growth rates of nominal gross domestic product (GDP) and target GDP to variation in the three-month market interest rate. The same analyses do not, however, appear to confirm the existence of a significant inverse causal relation from variation in the market interest rate to deviation between the nominal and target GDP growth rates. Similar results were obtained on replacing the market interest rate with the European Central Bank refinancing interest rate. This confirmation of only one of the two directions of causality does not support an interpretation of monetary policy based on the nominal GDP targeting rule and gives rise to doubt in more general terms as to the applicability of the Taylor rule and all the conventional rules of monetary policy to the case in question. The results appear instead to be more in line with other possible approaches, such as those based on post Keynesian analyses of monetary theory and policy and more specifically the so-called solvency rule (Brancaccio and Fontana, 2013, 2015). These lines of research challenge the simplistic argument that the scope of monetary policy consists in the stabilization of inflation, real GDP, or nominal income around a natural equilibrium level. Rather, they suggest that central banks actually follow a more complex purpose, which is the political regulation of the financial system with particular reference to the relations between creditors and debtors and the related solvency of economic units.
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