Andrew Levin | Dartmouth College (original) (raw)

Papers by Andrew Levin

Non-technical summary 5 1 Introduction 2 Data Uncertainty in the Euro Area 3 A Rational-Expectati... more Non-technical summary 5 1 Introduction 2 Data Uncertainty in the Euro Area 3 A Rational-Expectations Model with Data Uncertainty 3.1 The Behavioral Equations 3.2 The Revision Process 4 Evaluating the Role of Indicator Variables 4.1 The Optimal Filtering Problem 4.2 Measures of Information Content 5 Illustrating the Information Role of Money 5.1 The Economy without Money 5.2 The Information Role of Money 6 The Quantitative Significance of Money as an Indicator Variable 6.1 Results for the Baseline Estimated Model 6.1.1 The Optimal Indicator Weights 6.1.2 Measures ofInformation Content 6.2 The Role of Monetary Analysis 6.3 Further Sensitivity Analysis 7 Conclusion References Appendix A Kalman filtering à la Svensson and Woodford A.1 The state-space representation A.2 The Kalman filter Appendix B Measuring the information content of indicator variables B.1 Within-period estimation B.2 Multi-period predictions Appendix C The representation of the revision process Appendix D Results of further sensitivity analysis European Central Bank Working Paper Series

SSRN Electronic Journal, 2005

The Eurosystem Inflation Persistence Network This paper reflects research conducted within the In... more The Eurosystem Inflation Persistence Network This paper reflects research conducted within the Inflation Persistence Network (IPN), a team of Eurosystem economists undertaking joint research on inflation persistence in the euro area and in its member countries. The research of the IPN combines theoretical and empirical analyses using three data sources: individual consumer and producer prices; surveys on firms' price-setting practices; aggregated sectoral, national and area-wide price indices. Patterns, causes and policy implications of inflation persistence are addressed. Since June 2005 the IPN is chaired by Frank Smets; Stephen Cecchetti (Brandeis University), Jordi Galí (CREI, Universitat Pompeu Fabra) and Andrew Levin (Board of Governors of the Federal Reserve System) act as external consultants and Gonzalo Camba-Méndez as Secretary. The refereeing process is coordinated by a team composed of Günter Coenen (Chairman), Stephen Cecchetti, Silvia Fabiani, Jordi Galí, Andrew Levin, and Gonzalo Camba-Méndez. The paper is released in order to make the results of IPN research generally available, in preliminary form, to encourage comments and suggestions prior to final publication. The views expressed in the paper are the author's own and do not necessarily reflect those of the Eurosystem.

Research in Economics, 2017

This paper examines how central bank credibility affects the merits of a "gradualist" versus "col... more This paper examines how central bank credibility affects the merits of a "gradualist" versus "cold turkey" approach to disinflation in a DSGE model in which private agents use optimal filtering to infer the central bank's nominal anchor. Our analysis is applied to two episodes of sharp and deliberate monetary tightening in the United States-the post-WWI deflation and the Volcker disinflation. For a policy regime with relatively high credibility, our analysis highlights the benefits of a gradualist approach; thus, the aggressive tightening that occurred in 1920-21 did not seem warranted. In contrast, for a policy regime with relatively low credibility (such as the Federal Reserve in late 1980), an aggressive policy stance can play an important signalling role by making the policy shift more evident to private agents.

IMF Working Papers, 2013

In this paper, we provide compelling evidence that cyclical factors account for the bulk of the p... more In this paper, we provide compelling evidence that cyclical factors account for the bulk of the post-2007 decline in the U.S. labor force participation rate. We then proceed to formulate a stylized New Keynesian model in which labor force participation is essentially acyclical during "normal times" (that is, in response to small or transitory shocks) but drops markedly in the wake of a large and persistent aggregate demand shock. Finally, we show that these considerations can have potentially crucial implications for the design of monetary policy, especially under circumstances in which adjustments to the short-term interest rate are constrained by the zero lower bound.

We quantify the effects of monetary policy transparency and credibility on macroeco-nomic volatil... more We quantify the effects of monetary policy transparency and credibility on macroeco-nomic volatility in an estimated model of the Euro area economy. In our model, private agents are unable to distinguish between temporary shocks to the central bank's monetary policy rule and persistent shifts in the inflation target, and therefore use optimal filtering techniques to construct estimates of the future monetary policy stance. We find that the macroeconomic benefits of credibly announcing the current level of the time-varying inflation target are reasonably small as long as private agents correctly understand the stochastic processes governing the inflation target and the temporary policy shock. If, on the other hand, private agents overestimate the volatility of the inflation target, the overall gains of announcing the target can be substantial. We also show that the central bank can help private agents in their learning process by responding more aggressively to deviations of infl...

Although the Dixit-Stiglitz aggregator is the workhorse specification of monopolistic competition... more Although the Dixit-Stiglitz aggregator is the workhorse specification of monopolistic competition, this framework and related variants are fundamentally inconsistent with a key stylized fact from empirical studies of consumer behavior and product marketing, namely, that the price elasticity of demand for a given brand is primarily determined by the extensive margin (i.e., changes in the number of customers purchasing that product) rather than the intensive margin (i.e., changes in the specific quantity purchased by each individual customer). In this paper, we analyze household scanner data to confirm the salient empirical results, and we then proceed to formulate a new dynamic general equilibrium framework that captures both the intensive and extensive margins of demand. Our theoretical framework involves a two-dimensional product space and incomplete household information, giving rise to an equilibrium price distribution with customer search. Assuming uniform distributions for the individual-specific search costs and for the firm-specific productivity shocks, we obtain analytical expressions for the equilibrium price distribution and the optimal price-setting behavior of each producer, and we show that the implications of the model are consistent with the key stylized facts. Finally, we discuss how this new approach holds substantial promise for future research on price-setting behavior, not only in enhancing the linkages between micro data and macro models but in building stronger connections to ongoing research in marketing and consumer behavior.

In this paper, we investigate the properties of alternative monetary policy rules using four stru... more In this paper, we investigate the properties of alternative monetary policy rules using four structural macroeconometric models: the Fuhrer-Moore model, Taylor's Multi-Country Model, the MSR model of Orphanides and Wieland, and the FRB staff model. All four models incorporate the assumptions of rational expectations, short-run nominal inertia, and long-run monetary neutrality, but differ in many other respects (e.g., the dynamics of prices and real expenditures). We compute the output-inflation volatility frontier of each model for alternative specifications of the interest rate rule, subject to an upper bound on nominal interest rate volatility. Our analysis provides strong support for rules in which the first-difference of the federal funds rate responds to the current output gap and the deviation of the one-year average inflation rate from a specified target. In all four models, first-difference rules perform much better than rules of the type proposed by Taylor (1993) and Henderson and McKibbin (1993), in which the level of the federal funds rate responds to the output gap and inflation deviation from target. Furthermore, first-difference rules generate essentially the same policy frontier as more complicated rules (i.e., rules that respond to a larger number of variables and/or additional lags of output and inflation). Finally, this class of rules is robust to model uncertainty, in the sense that a first-difference rule taken from the policy frontier of one model is very close to the policy frontier of each of the other three models. In contrast, more complicated rules are less robust to model uncertainty: rules with additional parameters can be fine-tuned to the dynamics of a specific model, but typically perform poorly in the other models.

This paper analyzes the role of transparency and credibility in accounting for the widely diverge... more This paper analyzes the role of transparency and credibility in accounting for the widely divergent macroeconomic effects of three episodes of deliberate monetary contraction: the post-Civil War deflation, the post-WWI deflation, and the Volcker disinflation. Using a dynamic general equilibrium model in which private agents use optimal filtering to infer the central bank's nominal anchor, we demonstrate that the salient features of these three historical episodes can be explained by differences in the design and transparency of monetary policy, even without any time variation in economic structure or model parameters. For a policy regime with relatively high credibility, our analysis highlights the benefits of a gradualist approach (as in the 1870s) rather than a sudden change in policy (as in 1920-21). In contrast, for a policy institution with relatively low credibility (such as the Federal Reserve in late 1980), an aggressive policy stance can play an important signalling role by making the policy shift more evident to private agents.

American Economic Review, 2003

We investigate the performance of forecast-based monetary policy rules using five macroeconomic m... more We investigate the performance of forecast-based monetary policy rules using five macroeconomic models that reflect a wide range of views on aggregate dynamics. We identify the key characteristics of rules that are robust to model uncertainty; such rules respond to the one-year-ahead inflation forecast and to the current output gap and incorporate a substantial degree of policy inertia. In contrast, rules with longer forecast horizons are less robust and are prone to generating indeterminacy. Finally, we identify a robust benchmark rule that performs very well in all five models over a wide range of policy preferences.

Journal of Monetary Economics, 2000

We formulate an optimizing-agent model in which both labor and product markets exhibit monopolist... more We formulate an optimizing-agent model in which both labor and product markets exhibit monopolistic competition and staggered nominal contracts. The unconditional expectation of average household utility can be expressed in terms of the unconditional variances of the output gap, price inflation, and wage inflation. Monetary policy cannot replicate the Pareto-optimal equilibrium that would occur under completely flexible wages and prices; that is, the model exhibits a tradeoff between stabilizing the output gap, price inflation, and wage inflation. The Pareto optimum is only attainable if either wages or prices are completely flexible. For reasonable calibrations of the model, we characterize the optimal policy rule. Furthermore, strict price inflation targeting is clearly suboptimal, whereas rules that place substantial weight on the output gap as well as price inflation are nearly optimal.

Journal of Monetary Economics, 2003

The existing literature on robust monetary policy rules has largely focused on the case in which ... more The existing literature on robust monetary policy rules has largely focused on the case in which the policymaker has a single reference model and the true economy lies within a specified neighborhood of that model. In this paper, we show that such rules may perform very poorly in the more general case in which non-nested models represent competing perspectives about controversial issues such as expectations formation and inflation persistence. Using Bayesian and minimax strategies, we then consider whether any simple rule can provide robust performance across such divergent representations of the economy. We find that a robust outcome is only attainable in cases where the objective function places substantial weight on stabilizing both output and inflation; in contrast, no simple rule is robust when inflation stabilization is the sole policy objective. We analyze these results using a new diagnostic approach, namely, by quantifying the fault tolerance of each model economy with respect to deviations from optimal policy.

Journal of Monetary Economics, 2006

We document that the durable goods sector is much more interest-sensitive than the non-durables s... more We document that the durable goods sector is much more interest-sensitive than the non-durables sector, and then investigate the implications of these sectoral di¤erences for monetary policy. We formulate a twosector general equilibrium model that is calibrated both to match the sectoral responses to a monetary shock derived from our empirical VAR, and to imply an empirically realistic degree of sectoral output volatility and comovement. While the social welfare function involves sector-speci…c output gaps and in ‡ation rates, the performance of the optimal policy rule can be closely approximated by a simple rule that targets a weighted average of aggregate wage and price in ‡ation. In contrast, a rule that stabilizes a more narrow measure of …nal goods price in ‡ation performs poorly in terms of social welfare.

Journal of Monetary Economics, 2008

Many recent studies in macroeconomics have focused on the estimation of DSGE models using a syste... more Many recent studies in macroeconomics have focused on the estimation of DSGE models using a system of loglinear approximations to the models' nonlinear equilibrium conditions. The term macroeconometric equivalence encapsulates the idea that estimates using aggregate data based on first-order approximations to the equilibrium conditions of a DSGE model will not be able to distinguish between alternative underlying preferences and technologies. The concept of microeconomic dissonance refers to the fact that the underlying microeconomic differences become important when optimal monetary policy is analyzed in a nonlinear setting. The relevance of these concepts is established by analysis of optimal steady-state inflation and optimal policy in the stochastic economy using a small-scale New Keynesian model. Microeconomic and financial datasets are promising tools with which to overcome the equivalence problem.

Journal of Monetary Economics, 2007

This paper formulates a stylized New Keynesian model in which each individual firm can select the... more This paper formulates a stylized New Keynesian model in which each individual firm can select the frequency of its price adjustments. The endogeneity of contract duration has a dramatic impact on the magnitude of the aggregate effects of steady-state inflation. With a plausible calibration of the magnitude of menu costs and other structural parameters, this model predicts a relationship between steady-state inflation and the frequency of price adjustment that is reasonably close to the empirical findings of crosscountry studies. Furthermore, at moderate inflation rates, steady-state inflation generates relative price distortions that have a non-trivial impact on aggregate output, but this impact wanes and eventually disappears at much higher annual inflation rates because the frequency of price adjustment approaches that of the flexible-price economy.

Journal of Monetary Economics, 2003

In this paper, we formulate a dynamic general equilibrium model with staggered nominal contracts,... more In this paper, we formulate a dynamic general equilibrium model with staggered nominal contracts, in which households and Þrms use optimal Þltering to disentangle persistent and transitory shifts in the monetary policy rule. The calibrated model accounts quite well for the dynamics of output and inßation during the Volcker disinßation, and implies a sacriÞce ratio very close to the estimated value. Our approach indicates that inßation persistence and substantial costs of disinßation can be generated in an optimizing-agent framework, without relaxing the assumption of rational expectations or relying on arbitrary modiÞcations to the aggregate supply relation.

European Economic Review, 2005

In this study, we perform a quantitative assessment of the role of money as an indicator variable... more In this study, we perform a quantitative assessment of the role of money as an indicator variable for monetary policy in the euro area. We document the magnitude of revisions to euro area-wide data on output, prices, and money, and find that monetary aggregates have a potentially significant role in providing information about current real output. We then proceed to analyze the information content of money in a forward-looking model in which monetary policy is optimally determined subject to incomplete information about the true state of the economy. We show that monetary aggregates may have substantial information content in an environment with high variability of output measurement errors, low variability of money demand shocks, and a strong contemporaneous linkage between money demand and real output. As a practical matter, however, we conclude that money has fairly limited information content as an indicator of contemporaneous aggregate demand in the euro area.

CEPR Discussion Paper No. …, 2007

Abstract: In this paper, we show that strategic complementarities-such as firm-specific factors o... more Abstract: In this paper, we show that strategic complementarities-such as firm-specific factors or quasi-kinked demand-have crucial implications for the design of monetary policy and for the welfare costs of output and inflation variability. Recent research has mainly used log-...

Many of the advances in monetary policy analysis over the past two decades have been developed fr... more Many of the advances in monetary policy analysis over the past two decades have been developed from the perspective of a large open economy. The early theoretical work on the New Keynesian model frequently ignored exchange rates, financial capital flows, and ...

Non-technical summary 5 1 Introduction 2 Data Uncertainty in the Euro Area 3 A Rational-Expectati... more Non-technical summary 5 1 Introduction 2 Data Uncertainty in the Euro Area 3 A Rational-Expectations Model with Data Uncertainty 3.1 The Behavioral Equations 3.2 The Revision Process 4 Evaluating the Role of Indicator Variables 4.1 The Optimal Filtering Problem 4.2 Measures of Information Content 5 Illustrating the Information Role of Money 5.1 The Economy without Money 5.2 The Information Role of Money 6 The Quantitative Significance of Money as an Indicator Variable 6.1 Results for the Baseline Estimated Model 6.1.1 The Optimal Indicator Weights 6.1.2 Measures ofInformation Content 6.2 The Role of Monetary Analysis 6.3 Further Sensitivity Analysis 7 Conclusion References Appendix A Kalman filtering à la Svensson and Woodford A.1 The state-space representation A.2 The Kalman filter Appendix B Measuring the information content of indicator variables B.1 Within-period estimation B.2 Multi-period predictions Appendix C The representation of the revision process Appendix D Results of further sensitivity analysis European Central Bank Working Paper Series

SSRN Electronic Journal, 2005

The Eurosystem Inflation Persistence Network This paper reflects research conducted within the In... more The Eurosystem Inflation Persistence Network This paper reflects research conducted within the Inflation Persistence Network (IPN), a team of Eurosystem economists undertaking joint research on inflation persistence in the euro area and in its member countries. The research of the IPN combines theoretical and empirical analyses using three data sources: individual consumer and producer prices; surveys on firms' price-setting practices; aggregated sectoral, national and area-wide price indices. Patterns, causes and policy implications of inflation persistence are addressed. Since June 2005 the IPN is chaired by Frank Smets; Stephen Cecchetti (Brandeis University), Jordi Galí (CREI, Universitat Pompeu Fabra) and Andrew Levin (Board of Governors of the Federal Reserve System) act as external consultants and Gonzalo Camba-Méndez as Secretary. The refereeing process is coordinated by a team composed of Günter Coenen (Chairman), Stephen Cecchetti, Silvia Fabiani, Jordi Galí, Andrew Levin, and Gonzalo Camba-Méndez. The paper is released in order to make the results of IPN research generally available, in preliminary form, to encourage comments and suggestions prior to final publication. The views expressed in the paper are the author's own and do not necessarily reflect those of the Eurosystem.

Research in Economics, 2017

This paper examines how central bank credibility affects the merits of a "gradualist" versus "col... more This paper examines how central bank credibility affects the merits of a "gradualist" versus "cold turkey" approach to disinflation in a DSGE model in which private agents use optimal filtering to infer the central bank's nominal anchor. Our analysis is applied to two episodes of sharp and deliberate monetary tightening in the United States-the post-WWI deflation and the Volcker disinflation. For a policy regime with relatively high credibility, our analysis highlights the benefits of a gradualist approach; thus, the aggressive tightening that occurred in 1920-21 did not seem warranted. In contrast, for a policy regime with relatively low credibility (such as the Federal Reserve in late 1980), an aggressive policy stance can play an important signalling role by making the policy shift more evident to private agents.

IMF Working Papers, 2013

In this paper, we provide compelling evidence that cyclical factors account for the bulk of the p... more In this paper, we provide compelling evidence that cyclical factors account for the bulk of the post-2007 decline in the U.S. labor force participation rate. We then proceed to formulate a stylized New Keynesian model in which labor force participation is essentially acyclical during "normal times" (that is, in response to small or transitory shocks) but drops markedly in the wake of a large and persistent aggregate demand shock. Finally, we show that these considerations can have potentially crucial implications for the design of monetary policy, especially under circumstances in which adjustments to the short-term interest rate are constrained by the zero lower bound.

We quantify the effects of monetary policy transparency and credibility on macroeco-nomic volatil... more We quantify the effects of monetary policy transparency and credibility on macroeco-nomic volatility in an estimated model of the Euro area economy. In our model, private agents are unable to distinguish between temporary shocks to the central bank's monetary policy rule and persistent shifts in the inflation target, and therefore use optimal filtering techniques to construct estimates of the future monetary policy stance. We find that the macroeconomic benefits of credibly announcing the current level of the time-varying inflation target are reasonably small as long as private agents correctly understand the stochastic processes governing the inflation target and the temporary policy shock. If, on the other hand, private agents overestimate the volatility of the inflation target, the overall gains of announcing the target can be substantial. We also show that the central bank can help private agents in their learning process by responding more aggressively to deviations of infl...

Although the Dixit-Stiglitz aggregator is the workhorse specification of monopolistic competition... more Although the Dixit-Stiglitz aggregator is the workhorse specification of monopolistic competition, this framework and related variants are fundamentally inconsistent with a key stylized fact from empirical studies of consumer behavior and product marketing, namely, that the price elasticity of demand for a given brand is primarily determined by the extensive margin (i.e., changes in the number of customers purchasing that product) rather than the intensive margin (i.e., changes in the specific quantity purchased by each individual customer). In this paper, we analyze household scanner data to confirm the salient empirical results, and we then proceed to formulate a new dynamic general equilibrium framework that captures both the intensive and extensive margins of demand. Our theoretical framework involves a two-dimensional product space and incomplete household information, giving rise to an equilibrium price distribution with customer search. Assuming uniform distributions for the individual-specific search costs and for the firm-specific productivity shocks, we obtain analytical expressions for the equilibrium price distribution and the optimal price-setting behavior of each producer, and we show that the implications of the model are consistent with the key stylized facts. Finally, we discuss how this new approach holds substantial promise for future research on price-setting behavior, not only in enhancing the linkages between micro data and macro models but in building stronger connections to ongoing research in marketing and consumer behavior.

In this paper, we investigate the properties of alternative monetary policy rules using four stru... more In this paper, we investigate the properties of alternative monetary policy rules using four structural macroeconometric models: the Fuhrer-Moore model, Taylor's Multi-Country Model, the MSR model of Orphanides and Wieland, and the FRB staff model. All four models incorporate the assumptions of rational expectations, short-run nominal inertia, and long-run monetary neutrality, but differ in many other respects (e.g., the dynamics of prices and real expenditures). We compute the output-inflation volatility frontier of each model for alternative specifications of the interest rate rule, subject to an upper bound on nominal interest rate volatility. Our analysis provides strong support for rules in which the first-difference of the federal funds rate responds to the current output gap and the deviation of the one-year average inflation rate from a specified target. In all four models, first-difference rules perform much better than rules of the type proposed by Taylor (1993) and Henderson and McKibbin (1993), in which the level of the federal funds rate responds to the output gap and inflation deviation from target. Furthermore, first-difference rules generate essentially the same policy frontier as more complicated rules (i.e., rules that respond to a larger number of variables and/or additional lags of output and inflation). Finally, this class of rules is robust to model uncertainty, in the sense that a first-difference rule taken from the policy frontier of one model is very close to the policy frontier of each of the other three models. In contrast, more complicated rules are less robust to model uncertainty: rules with additional parameters can be fine-tuned to the dynamics of a specific model, but typically perform poorly in the other models.

This paper analyzes the role of transparency and credibility in accounting for the widely diverge... more This paper analyzes the role of transparency and credibility in accounting for the widely divergent macroeconomic effects of three episodes of deliberate monetary contraction: the post-Civil War deflation, the post-WWI deflation, and the Volcker disinflation. Using a dynamic general equilibrium model in which private agents use optimal filtering to infer the central bank's nominal anchor, we demonstrate that the salient features of these three historical episodes can be explained by differences in the design and transparency of monetary policy, even without any time variation in economic structure or model parameters. For a policy regime with relatively high credibility, our analysis highlights the benefits of a gradualist approach (as in the 1870s) rather than a sudden change in policy (as in 1920-21). In contrast, for a policy institution with relatively low credibility (such as the Federal Reserve in late 1980), an aggressive policy stance can play an important signalling role by making the policy shift more evident to private agents.

American Economic Review, 2003

We investigate the performance of forecast-based monetary policy rules using five macroeconomic m... more We investigate the performance of forecast-based monetary policy rules using five macroeconomic models that reflect a wide range of views on aggregate dynamics. We identify the key characteristics of rules that are robust to model uncertainty; such rules respond to the one-year-ahead inflation forecast and to the current output gap and incorporate a substantial degree of policy inertia. In contrast, rules with longer forecast horizons are less robust and are prone to generating indeterminacy. Finally, we identify a robust benchmark rule that performs very well in all five models over a wide range of policy preferences.

Journal of Monetary Economics, 2000

We formulate an optimizing-agent model in which both labor and product markets exhibit monopolist... more We formulate an optimizing-agent model in which both labor and product markets exhibit monopolistic competition and staggered nominal contracts. The unconditional expectation of average household utility can be expressed in terms of the unconditional variances of the output gap, price inflation, and wage inflation. Monetary policy cannot replicate the Pareto-optimal equilibrium that would occur under completely flexible wages and prices; that is, the model exhibits a tradeoff between stabilizing the output gap, price inflation, and wage inflation. The Pareto optimum is only attainable if either wages or prices are completely flexible. For reasonable calibrations of the model, we characterize the optimal policy rule. Furthermore, strict price inflation targeting is clearly suboptimal, whereas rules that place substantial weight on the output gap as well as price inflation are nearly optimal.

Journal of Monetary Economics, 2003

The existing literature on robust monetary policy rules has largely focused on the case in which ... more The existing literature on robust monetary policy rules has largely focused on the case in which the policymaker has a single reference model and the true economy lies within a specified neighborhood of that model. In this paper, we show that such rules may perform very poorly in the more general case in which non-nested models represent competing perspectives about controversial issues such as expectations formation and inflation persistence. Using Bayesian and minimax strategies, we then consider whether any simple rule can provide robust performance across such divergent representations of the economy. We find that a robust outcome is only attainable in cases where the objective function places substantial weight on stabilizing both output and inflation; in contrast, no simple rule is robust when inflation stabilization is the sole policy objective. We analyze these results using a new diagnostic approach, namely, by quantifying the fault tolerance of each model economy with respect to deviations from optimal policy.

Journal of Monetary Economics, 2006

We document that the durable goods sector is much more interest-sensitive than the non-durables s... more We document that the durable goods sector is much more interest-sensitive than the non-durables sector, and then investigate the implications of these sectoral di¤erences for monetary policy. We formulate a twosector general equilibrium model that is calibrated both to match the sectoral responses to a monetary shock derived from our empirical VAR, and to imply an empirically realistic degree of sectoral output volatility and comovement. While the social welfare function involves sector-speci…c output gaps and in ‡ation rates, the performance of the optimal policy rule can be closely approximated by a simple rule that targets a weighted average of aggregate wage and price in ‡ation. In contrast, a rule that stabilizes a more narrow measure of …nal goods price in ‡ation performs poorly in terms of social welfare.

Journal of Monetary Economics, 2008

Many recent studies in macroeconomics have focused on the estimation of DSGE models using a syste... more Many recent studies in macroeconomics have focused on the estimation of DSGE models using a system of loglinear approximations to the models' nonlinear equilibrium conditions. The term macroeconometric equivalence encapsulates the idea that estimates using aggregate data based on first-order approximations to the equilibrium conditions of a DSGE model will not be able to distinguish between alternative underlying preferences and technologies. The concept of microeconomic dissonance refers to the fact that the underlying microeconomic differences become important when optimal monetary policy is analyzed in a nonlinear setting. The relevance of these concepts is established by analysis of optimal steady-state inflation and optimal policy in the stochastic economy using a small-scale New Keynesian model. Microeconomic and financial datasets are promising tools with which to overcome the equivalence problem.

Journal of Monetary Economics, 2007

This paper formulates a stylized New Keynesian model in which each individual firm can select the... more This paper formulates a stylized New Keynesian model in which each individual firm can select the frequency of its price adjustments. The endogeneity of contract duration has a dramatic impact on the magnitude of the aggregate effects of steady-state inflation. With a plausible calibration of the magnitude of menu costs and other structural parameters, this model predicts a relationship between steady-state inflation and the frequency of price adjustment that is reasonably close to the empirical findings of crosscountry studies. Furthermore, at moderate inflation rates, steady-state inflation generates relative price distortions that have a non-trivial impact on aggregate output, but this impact wanes and eventually disappears at much higher annual inflation rates because the frequency of price adjustment approaches that of the flexible-price economy.

Journal of Monetary Economics, 2003

In this paper, we formulate a dynamic general equilibrium model with staggered nominal contracts,... more In this paper, we formulate a dynamic general equilibrium model with staggered nominal contracts, in which households and Þrms use optimal Þltering to disentangle persistent and transitory shifts in the monetary policy rule. The calibrated model accounts quite well for the dynamics of output and inßation during the Volcker disinßation, and implies a sacriÞce ratio very close to the estimated value. Our approach indicates that inßation persistence and substantial costs of disinßation can be generated in an optimizing-agent framework, without relaxing the assumption of rational expectations or relying on arbitrary modiÞcations to the aggregate supply relation.

European Economic Review, 2005

In this study, we perform a quantitative assessment of the role of money as an indicator variable... more In this study, we perform a quantitative assessment of the role of money as an indicator variable for monetary policy in the euro area. We document the magnitude of revisions to euro area-wide data on output, prices, and money, and find that monetary aggregates have a potentially significant role in providing information about current real output. We then proceed to analyze the information content of money in a forward-looking model in which monetary policy is optimally determined subject to incomplete information about the true state of the economy. We show that monetary aggregates may have substantial information content in an environment with high variability of output measurement errors, low variability of money demand shocks, and a strong contemporaneous linkage between money demand and real output. As a practical matter, however, we conclude that money has fairly limited information content as an indicator of contemporaneous aggregate demand in the euro area.

CEPR Discussion Paper No. …, 2007

Abstract: In this paper, we show that strategic complementarities-such as firm-specific factors o... more Abstract: In this paper, we show that strategic complementarities-such as firm-specific factors or quasi-kinked demand-have crucial implications for the design of monetary policy and for the welfare costs of output and inflation variability. Recent research has mainly used log-...

Many of the advances in monetary policy analysis over the past two decades have been developed fr... more Many of the advances in monetary policy analysis over the past two decades have been developed from the perspective of a large open economy. The early theoretical work on the New Keynesian model frequently ignored exchange rates, financial capital flows, and ...