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9780691010496

Interest and Prices

by
  • ISBN13:

    9780691010496

  • ISBN10:

    0691010498

  • Format: Hardcover
  • Copyright: 2003-08-18
  • Publisher: Princeton Univ Pr

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Summary

With the collapse of the Bretton Woods system, any pretense of a connection of the world's currencies to any real commodity has been abandoned. Yet since the 1980s, most central banks have abandoned money-growth targets as practical guidelines for monetary policy as well. How then can pure "fiat" currencies be managed so as to create confidence in the stability of national units of account?Interest and Prices seeks to provide theoretical foundations for a rule-based approach to monetary policy suitable for a world of instant communications and ever more efficient financial markets. In such a world, effective monetary policy requires that central banks construct a conscious and articulate account of what they are doing. Michael Woodford reexamines the foundations of monetary economics, and shows how interest-rate policy can be used to achieve an inflation target in the absence of either commodity backing or control of a monetary aggregate.The book further shows how the tools of modern macroeconomic theory can be used to design an optimal inflation-targeting regime--one that balances stabilization goals with the pursuit of price stability in a way that is grounded in an explicit welfare analysis, and that takes account of the "New Classical" critique of traditional policy evaluation exercises. It thus argues that rule-based policymaking need not mean adherence to a rigid framework unrelated to stabilization objectives for the sake of credibility, while at the same time showing the advantages of rule-based over purely discretionary policymaking.

Table of Contents

PREFACE xiii
1 The Return of Monetary Rules 1(60)
1 The Importance of Price Stability
4(10)
1.1 Toward a New "Neoclassical Synthesis"
6(4)
1.2 Microeconomic Foundations and Policy Analysis
10(4)
2 The Importance of Policy Commitment
14(10)
2.1 Central Banking as Management of Expectations
15(3)
2.2 Pitfalls of Conventional Optimal Control
18(6)
3 Monetary Policy without Control of a Monetary Aggregate
24(13)
3.1 Implementing Interest-Rate Policy
25(6)
3.2 Monetary Policy in a Cashless Economy
31(6)
4 Interest-Rate Rules
37(18)
4.1 Contemporary Proposals
39(5)
4.2 General Criticisms of Interest-Rate Rules
44(5)
4.3 Neo-Wicksellian Monetary Theory
49(6)
5 Plan of the Book
55(6)
PART I Analytical Framework
2 Price Level Determination under Interest-Rate Rules
61(78)
1 Price-Level Determination in a Cashless Economy
62(23)
1.1 An Asset-Pricing Model with Nominal Assets
64(10)
1.2 A Wicksellian Policy Regime
74(11)
2 Alternative Interest-Rate Rules
85(16)
2.1 Exogenous Interest-Rate Targets
86(4)
2.2 The Taylor Principle and Determinacy
90(4)
2.3 Inertial Responses to Inflation Variation
94(7)
3 Price-Level Determination with Monetary Frictions
101(22)
3.1 A Model with Transactions Frictions
102(3)
3.2 Interest-Rate Rules Reconsidered
105(1)
3.3 A Comparison with Money-Growth Targeting
106(5)
3.4 Consequences of Nonseparable Utility
111(12)
4 Self-Fulfilling Inflations and Deflations
123(16)
4.1 Global Multiplicity Despite Local Determinacy
123(8)
4.2 Policies to Prevent a Deflationary Trap
131(4)
4.3 Policies to Prevent an Inflationary Panic
135(4)
3 Optimizing Models with Nominal Rigidities
139(98)
1 A Basic Sticky-Price Model
143(30)
1.1 Pricesetting and Endogenous Output
143(12)
1.2 Consequences of Prices Fixed in Advance
155(3)
1.3 A New Classical Phillips Curve
158(5)
1.4 Sources of Strategic Complementarity
163(10)
2 Inflation Dynamics with Staggered Pricesetting
173(31)
2.1 The Calvo Model of Pricesetting
177(10)
2.2 A New Keynesian Phillips Curve
187(1)
2.3 Persistent Real Effects of Nominal Disturbances
188(9)
2.4 Consequences of Persistence in the Growth of Nominal Spending
197(3)
2.5 Consequences of Sectoral Asymmetries
200(4)
3 Delayed Effects of Nominal Disturbances on Inflation
204(14)
3.1 Staggered Pricing with Delayed Price Changes
207(6)
3.2 Consequences of Indexation to Past Inflation
213(5)
4 Consequences of Nominal Wage Stickiness
218(19)
4.1 A Model of Staggered Wagesetting
221(5)
4.2 Sticky Wages and the Real Effects of Nominal Disturbances
226(11)
4 A Neo-Wicksellian Framework for the Analysis of Monetary Policy
237(83)
1 A Basic Model of the Effects of Monetary Policy
238(9)
1.1 Nonlinear Equilibrium Conditions
239(4)
1.2 A Log-Linear Approximate Model
243(4)
2 Interest-Rate Rules and Price Stability
247(48)
2.1 The Natural Rate of Interest
247(5)
2.2 Conditions for Determinacy of Equilibrium
252(9)
2.3 Stability under Learning Dynamics
261(15)
2.4 Determinants of Inflation
276(10)
2.5 Inflation Stabilization through Commitment to a Taylor Rule
286(4)
2.6 Inflation Targeting Rules
290(5)
3 Money and Aggregate Demand
295(16)
3.1 An Optimizing IS-LM Model
295(4)
3.2 Real-Balance Effects
299(12)
4 Fiscal Requirements for Price Stability
311(9)
5 Dynamics of the Response to Monetary Policy
320(61)
1 Delayed Effects of Monetary Policy
321(15)
1.1 Consequences of Predetermined Expenditure
322(10)
1.2 Habit Persistence in Private Expenditure
332(4)
2 Some Small Quantitative Models
336(16)
2.1 The Rotemberg-Woodford Model
336(9)
2.2 More Complex Variants
345(7)
3 Monetary Policy and Investment Dynamics
352(29)
3.1 Investment Demand with Sticky Prices
353(4)
3.2 Optimal Pricesetting with Endogenous Capital
357(4)
3.3 Comparison with the Basic Neo-Wicksellian Model
361(11)
3.4 Capital and the Natural Rate of Interest
372(9)
PART II Optimal Policy
6 Inflation Stabilization and Welfare
381(83)
1 Approximation of Loss Functions and Optimal Policies
383(9)
2 A Utility-Based Welfare Criterion
392(13)
2.1 Output-Gap Stability and Welfare
393(3)
2.2 Inflation and Relative-Price Distortions
396(9)
3 The Case for Price Stability
405(14)
3.1 The Case of an Efficient Natural Rate of Output
407(4)
3.2 Consequences of a Mildly Inefficient Natural Rate of Output
411(5)
3.3 Caveats
416(3)
4 Extensions of the Basic Analysis
419(36)
4.1 Transactions Frictions
420(7)
4.2 The Zero Interest-Rate Lower Bound
427(8)
4.3 Asymmetric Disturbances
435(8)
4.4 Sticky Wages and Prices
443(5)
4.5 Time-Varying Tax Wedges or Markups
448(7)
5 The Case of Larger Distortions
455(9)
7 Gains from Commitment to a Policy Rule
464(70)
1 The Optimal Long-Run Inflation Target
468(16)
1.1 The Inflationary Bias of Discretionary Policy
469(7)
1.2 Extensions of the Basic Analysis
476(8)
2 Optimal Responses to Disturbances
484(23)
2.1 Cost-Push Shocks
486(15)
2.2 Fluctuations in the Natural Rate of Interest
501(6)
3 Optimal Simple Policy Rules
507(10)
3.1 The Optimal Noninertial Plan
510(3)
3.2 The Optimal Taylor Rule
513(4)
4 The Optimal State-Contingent Instrument Path as a Policy Rule
517(4)
5 Commitment to an Optimal Targeting Rule
521(13)
5.1 Robustly Optimal Target Criteria
522(5)
5.2 Implementation of a Targeting Rule
527(7)
8 Optimal Monetary Policy Rules
534(93)
1 A General Linear-Quadratic Framework
535(24)
1.1 Optimal State-Contingent Paths
536(7)
1.2 Alternative Forms of Policy Rules
543(4)
1.3 Robustness to Alternative Types of Disturbances
547(3)
1.4 Existence of Robustly Optimal Policy Rules
550(5)
1.5 Optimal Instrument Rules
555(4)
2 Optimal Inflation Targeting Rules
559(23)
2.1 A Model with Inflation Inertia
560(5)
2.2 A Model with Wages and Prices Both Sticky
565(3)
2.3 A Model with Habit Persistence
568(1)
2.4 Predetermined Spending and Pricing Decisions
569(4)
2.5 Optimal Policy for a Small Quantitative Model
573(9)
3 Optimal Interest-Rate Rules
582(28)
3.1 An Optimal Rule for the Basic Neo-Wicksellian Model
583(9)
3.2 Consequences of Inflation Inertia
592(12)
3.3 Predetermined Spending and Pricing Decisions
604(2)
3.4 Optimal Policy under Imperfect Information
606(4)
4 Reflections on Currently Popular Policy Proposals
610(17)
4.1 The Taylor Rule
610(9)
4.2 Inflation-Forecast Targeting
619
APPENDIXES
A Addendum to Chapter 2
627(29)
A.1 Proof of Proposition 2.1
627(1)
A.2 Proof of Proposition 2.2
628(2)
A.3 Log-Linearization and Determinacy of Equilibrium
630(5)
A.4 Proof of Proposition 2.3
635(2)
A.5 Proof of Proposition 2.4
637(1)
A.6 Proof of Proposition 2.5
638(1)
A.7 Proof of Proposition 2.7
639(1)
A.8 Proof of Proposition 2.8
640(1)
A.9 Proof of Proposition 2.9
641(2)
A.10 Proof of Proposition 2.10
643(1)
A.11 Proof of Proposition 2.11
644(1)
A.12 Proof of Proposition 2.12
645(1)
A.13 Proof of Proposition 2.13
646(1)
A.14 Proof of Proposition 2.14
646(1)
A.15 Proof of Proposition 2.15
647(2)
A.16 Monetary Frictions with an Alternative Timing Convention
649(4)
A.17 The Example of Schmitt-Grohé and Uribe
653(3)
B Addendum to Chapter 3
656(14)
B.1 Non-CES Demand and Variable Markups
656(1)
B.2 Proof of Proposition 3.3
657(2)
B.3 Proof of Proposition 3.4
659(2)
B.4 Proof of Proposition 3.5
661(1)
B.5 Proof of Proposition 3.6
662(2)
B.6 Proof of Proposition 3.7
664(2)
B.7 Proof of Proposition 3.8
666(4)
C Addendum to Chapter 4
670(17)
C.1 Determinacy of Equilibrium in Small Linear Models: Useful Results
670(6)
C.2 Proof of Proposition 4.3
676(1)
C.3 Proof of Proposition 4.4
677(4)
C.4 Proof of Proposition 4.5
681(1)
C.5 Proof of Proposition 4.6
682(1)
C.6 Proof of Proposition 4.7
683(1)
C.7 Proof of Proposition 4.9
683(2)
C.8 Proof of Proposition 4.11
685(2)
D Addendum to Chapter 5
687(5)
D.1 Alternative Interpretation of the Habit Persistence Model
687(1)
D.2 Proof of Proposition 5.1
688(3)
D.3 Proof of Proposition 5.2
691(1)
E Addendum to Chapter 6
692(17)
E.1 Proof of Proposition 6.1
692(2)
E.2 Proof of Proposition 6.3
694(2)
E.3 Proof of Proposition 6.6
696(2)
E.4 Proof of Proposition 6.7
698(2)
E.5 Proof of Proposition 6.9
700(3)
E.6 Proof of Proposition 6.10
703(2)
E.7 Proof of Proposition 6.11
705(2)
E.8 Proof of Proposition 6.12
707(2)
F Addendum to Chapter 7
709(7)
F.1 Proof of Proposition 7.6
709(1)
F.2 Proof of Proposition 7.9
710(2)
F.3 Proof of Proposition 7.10
712(1)
F.4 The Optimal Noninertial Plan
713(1)
F.5 Proof of Proposition 7.15
714(1)
F.6 Proof of Proposition 7.16
715(1)
G Addendum to Chapter 8
716(31)
G.1 Assumptions 8.3 and 8.4
716(3)
G.2 Assumption 8.5
719(1)
G.3 Technical Lemmas
719(2)
G.4 Proof of Proposition 8.5
721(2)
G.5 Proof of Proposition 8.6
723(1)
G.6 Proof of Proposition 8.7
724(3)
G.7 Proof of Proposition 8.8
727(3)
G.8 Proof of Proposition 8.9
730(7)
G.9 Proof of Proposition 8.10
737(2)
G.10 Proof of Proposition 8.11
739(8)
REFERENCES 747(18)
INDEX 765

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