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Loss Aversion and the Asymmetric Transmission of Monetary Policy

Author

Listed:
  • Petrella, Ivan
  • Pfajfar, Damjan
  • Santoro, Emiliano
  • Gaffeo, Edoardo
Abstract
There is widespread evidence that monetary policy exerts asymmetric effects on output over contractions and expansions in economic activity, while price responses display no sizeable asymmetry. To rationalize these facts we develop a dynamic general equilibrium model where households? utility depends on consumption deviations from a reference level below which loss aversion is displayed. State-dependent degrees of real rigidity and elasticity of intertemporal substitution in consumption generate competing effects on output and inflation. Contractions face the Central Bank with higher responsiveness of output to interest rate changes, as well as a flatter aggregate supply schedule.

Suggested Citation

  • Petrella, Ivan & Pfajfar, Damjan & Santoro, Emiliano & Gaffeo, Edoardo, 2014. "Loss Aversion and the Asymmetric Transmission of Monetary Policy," CEPR Discussion Papers 10105, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:10105
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    Keywords

    Asymmetry; Business cycle; Monetary policy; Prospect theory;
    All these keywords.

    JEL classification:

    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
    • D11 - Microeconomics - - Household Behavior - - - Consumer Economics: Theory
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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