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Learning About Inflation Measures for Interest Rate Rules

Author/Editor: Airaudo, Marco | Zanna, Luis-Felipe
Authorized for Distribution: December 1, 2010
Electronic Access: Free Full Text (PDF file size is 2,639KB)
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Disclaimer: This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate.

Summary: Empirical evidence suggests that goods are highly heterogeneous with respect to the degree of price rigidity. We develop a DSGE model featuring heterogeneous nominal rigidities across two sectors to study the equilibrium determinacy and stability under adaptive learning for interest rate rules that respond to inflation measures differing in their degree of price stickiness. We find that rules responding to headline inflation measures that assign a positive weight to the inflation of the sector with low price stickiness are more prone to generate macroeconomic instability than rules that respond exclusively to the inflation of the sector with high price stickiness. By this we mean that they are more prone to induce non-learnable fundamental-driven equilibria, learnable self-fulfilling expectations equilibria, and equilibria where fluctuations are unbounded. We discuss how our results depend on the elasticity of substitution across goods, the degree of heterogeneity in price rigidity, as well as on the timing of the rule.
 
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Series: Working Paper No. 10/296
Subject(s): Economic models | Inflation | Inflation rates | Price stabilization | Stabilization measures
Author's keyword(s): Learning; Expectational Stability; Interest Rate Rules; Multiple Equilibria; Determinacy; Multiple Sectors
 
English  
    Published:   December 1, 2010        
            Format:   Paper
    Stock No:   WPIEA2010296   Pages:   45
    Price:   US$18.00 (Academic Rate: US$18.00 )
       
     
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