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Linear-Quadratic Approximation to Unconditionally Optimal Policy: The Distorted Steady-StateTatiana DamjanovicUniversity of St. Andrews - School of Economics and Finance Vladislav DamjanovicUniversity of Saint Andrews - School of Economics & Management Charles NolanUniversity of St. Andrews February 2008 CDMA Working Paper No. 0804 Abstract: This paper establishes that one can generally obtain a purely quadratic approximation to the unconditional expectation of social welfare when the steady-state is distorted. A specific example is provided employing a canonical New Keynesian model. Unlike in the non-distorted steady state case, the approximate loss function is not defined simply over terms in inflation and output. Furthermore, optimal steady state inflation and the nominal interest rate are positive.
Number of Pages in PDF File: 32 Keywords: Unconditional expectations, Optimal monetary policy JEL Classification: E20, E32, F32, F41 working papers seriesDate posted: March 26, 2008Suggested CitationContact Information
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