Finance and Economics Discussion Series (FEDS)
June 1998
Monetary Policy under Neoclassical and New-Keynesian Phillips Curves, with an Application to Price Level and Inflation Targeting
Abstract:
This paper compares discretionary monetary policy under two Phillips curves. Previous work uses a Phillips curve consistent with "Neoclassical" models of price adjustment. Sticky price models imply a "New-Keynesian" Phillips curve based on staggered price setting that delivers familiar results on an inflationary bias and inflation contracts. However, the comparison of price level and inflation targeting reveals an output/price stability tradeoff under the New-Keynesian model that does not arise under the Neoclassical specification, illustrating the usefulness of considering the New-Keynesian model. Given the empirical support for the New-Keynesian specification, a stability tradeoff likely exists.
Full paper (163 KB Postscript)Keywords: Time-inconsistency, rules, base drift
PDF: Full Paper
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