Keywords: bifurcation, perturbation, relative price distortion, optimal monetary policy
Abstract: In perturbation analysis of nonlinear dynamic systems, the presence of a bifurcation implies that the first-order behavior of the economy cannot be characterized solely in terms of the first-order derivatives of the model equations. In this paper, we use two simple examples to illustrate how to
detect the existence of a bifurcation. Following the general approach of Judd (1998), we then show how to apply l'Hospital's rule to characterize the solution of each model in terms of its higher-order derivatives. We also show that in some cases the bifurcation can be eliminated through
renormalization of model variables; furthermore, renormalization may yield a more accurate first-order solution than applying l'Hospital's rule to the original formulation.
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Last update: April 26, 2007