Estimation and control of an optimization-based model with sticky prices and wages

✍ Scribed by Jeffery D Amato; Thomas Laubach

• Publisher: Elsevier Science
• Year: 2003
• Tongue: English
• Weight: 300 KB
• Volume: 27
• Category: Article
• ISSN: 0165-1889
• DOI: 10.1016/s0165-1889(02)00021-0

✦ Synopsis

This paper provides estimates of an optimization-based equilibrium model with sticky prices and wages. The estimated model is used to analyse the welfare properties of various interest rate rules for conducting monetary policy. An important feature of this model is that it involves a tradeo between the variances of price and wage in ation and the output gap. This tradeo implies that it is desirable for the monetary authority to respond to wage in ation, in addition to price in ation, output, and past interest rates, when setting the current interest rate. The issue whether wages and prices can be indexed to steady-state in ation has important implications both for the characterization of optimal interest rate rules and interest rate volatility. In particular, optimal policy in the presence of indexation induces implausibly high steady-state in ation.