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A NOTE ON ROBUST MONETARY POLICY AND NON-ZERO TREND INFLATION

Published online by Cambridge University Press:  27 December 2018

Kohei Hasui
Kohei Hasui*
Affiliation:
Matsuyama University
*
Address correspondence to: Kohei Hasui, Department of Economics, Matsuyama University, Japan; e-mail: [email protected]. Phone: +81-89-926-7764.
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Abstract

This paper studies how model uncertainty influences economic fluctuation when trend inflation is high. We introduce Hansen and Sargent’s [(2008) Robustness, Princeton University Press] robust control techniques into a New Keynesian model with non-zero trend inflation. We reveal the following three points. First, we find that robust monetary policy responds more aggressively. This aggressiveness increases with trend inflation. Second, as the trend inflation rises, the response of macroeconomic variables is larger under robust policy. Third, stronger robustness tends to lead to indeterminate equilibrium as trend inflation increases. Consequently, the economy might be volatile when trend inflation is high due to robustness from the view of both variance and determinacy. We interpret the results as indicating that the model uncertainty might be the one of the factors causing large macroeconomic fluctuations when trend inflation is high.

Keywords

Trend InflationRobust ControlDiscretionary Monetary Policy
Type
Notes
Information
Macroeconomic Dynamics , Volume 24 , Issue 6 , September 2020 , pp. 1574 - 1594
Copyright
© 2018 Cambridge University Press

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Footnotes

The author thanks the editor William Barnet, two anonymous referees, Masakatsu Nakamura, Kengo Nutahara, and any other participants at the 52nd KMSG workshop in Meiji Gakuin University, at the Japan Society of Monetary Economics Spring Meeting in Senshu University, and at the International Finance and Development Economics Workshop in Kurume University for valuable suggestions and comments. The author acknowledges financial support from JSPS KAKENHI Grants Nos. 16K03920 and 17K13768.

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