Extreme events and optimal monetary policy

Jinill Kim and Francisco Ruge-Murcia

No 4/2018, Bank of Finland Research Discussion Papers from Bank of Finland

Abstract: This paper studies the implication of extreme shocks for monetary policy. The analysis is based on a small-scale New Keynesian model with sticky prices and wages where shocks are drawn from asymmetric Generalized Extreme Value distributions. A nonlinear perturbation solution of the model is estimated by the simulated method of moments. Under the Ramsey policy, the central bank responds nonlinearly and asymmetrically to shocks. The trade-off between targeting a gross inflation rate above 1 (or a net inflation rate above 0) as insurance against extreme shocks and targeting an average gross inflation at unity to avoid adjustment costs is unambiguously decided in favour of strict price stability.

JEL-codes: E4 E5 (search for similar items in EconPapers)
Date: 2018
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Related works:
Journal Article: EXTREME EVENTS AND OPTIMAL MONETARY POLICY (2019)
Working Paper: Extreme Events and Optimal Monetary Policy (2017)
Working Paper: Extreme Events and Optimal Monetary Policy (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:bofrdp:rdp2018_004

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