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Optimal Inflation for the US Economy

Optimal Inflation for the US Economy Abstract This paper studies the optimal long-run inflation rate (OIR) in a small New Keynesian model, where the only policy instrument is a short-term nominal interest rate that may occasionally run against a zero lower bound (ZLB). The model allows for worst-case scenarios of misspecification. The analysis shows first, if the government optimally commits, the OIR is below 1 percent annually. Second, if the government re-optimizes each period, the OIR rises markedly to 17 percent. Third, if the government commits only to an inertial Taylor rule, the inflation bias is eliminated at very low cost in terms of welfare for the representative household. (JEL E12, E31, E43, E52, E58 ) http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png American Economic Journal: Macroeconomics American Economic Association

Optimal Inflation for the US Economy

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Publisher
American Economic Association
Copyright
Copyright © 2011 by the American Economic Association
Subject
Articles
ISSN
1945-7715
eISSN
1945-7715
DOI
10.1257/mac.3.3.29
Publisher site
See Article on Publisher Site

Abstract

Abstract This paper studies the optimal long-run inflation rate (OIR) in a small New Keynesian model, where the only policy instrument is a short-term nominal interest rate that may occasionally run against a zero lower bound (ZLB). The model allows for worst-case scenarios of misspecification. The analysis shows first, if the government optimally commits, the OIR is below 1 percent annually. Second, if the government re-optimizes each period, the OIR rises markedly to 17 percent. Third, if the government commits only to an inertial Taylor rule, the inflation bias is eliminated at very low cost in terms of welfare for the representative household. (JEL E12, E31, E43, E52, E58 )

Journal

American Economic Journal: MacroeconomicsAmerican Economic Association

Published: Jul 1, 2011

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