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Dynamic Debt Deleveraging and Optimal Monetary Policy†

Dynamic Debt Deleveraging and Optimal Monetary Policy† AbstractThis paper proposes a postcrisis New Keynesian model that incorporates agent heterogeneity in borrowing and lending with a minimum set of assumptions. Unlike the standard framework, this model makes the natural rate of interest endogenous and dependent on macroeconomic policy. The main application is to study optimal monetary policy at the zero lower bound (ZLB). Such policy succeeds in raising the natural rate of interest by creating an environment that speeds up deleveraging and thus endogenously shortens the crisis and the duration of binding ZLB. Inflation should be front-loaded and should overshoot its long-term target during the ZLB episode. (JEL E12, E31, E32, E43, E52) http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png American Economic Journal Macroeconomics American Economic Association

Dynamic Debt Deleveraging and Optimal Monetary Policy†

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Publisher
American Economic Association
Copyright
Copyright © 2020 © American Economic Association
ISSN
1945-7715
DOI
10.1257/mac.20160124
Publisher site
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Abstract

AbstractThis paper proposes a postcrisis New Keynesian model that incorporates agent heterogeneity in borrowing and lending with a minimum set of assumptions. Unlike the standard framework, this model makes the natural rate of interest endogenous and dependent on macroeconomic policy. The main application is to study optimal monetary policy at the zero lower bound (ZLB). Such policy succeeds in raising the natural rate of interest by creating an environment that speeds up deleveraging and thus endogenously shortens the crisis and the duration of binding ZLB. Inflation should be front-loaded and should overshoot its long-term target during the ZLB episode. (JEL E12, E31, E32, E43, E52)

Journal

American Economic Journal Macroeconomics – American Economic Association

Published: Apr 1, 2020

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