Investment Cost Channel and Monetary Transmission
University of London, Birkbeck College, Faculty of Social Sciences, School of Economics, Mathematics and Statistics
Henrique S. Basso
Birkbeck College, University of London
University of East Anglia (UEA) - School of Economic and Social Studies
June 6, 2011
Central Bank Review, Vol. 11, pp. 1-13, July 2011
We show that a standard DSGE model with investment cost channels has important model stability and policy implications. Our analysis suggests that in economies characterized by supply side well as demand side channels of monetary transmission, policymakers may have to resort to a much more aggressive stand against inflation to obtain locally unique equilibrium. In such an environment targeting output gap may cause model instability. We also show that it is difficult to distinguish between the New Keynesian model and labor cost channel only case, while with investment cost channel differences are more significant. This result is important as it suggests that if one does not take into account the investment cost channel, one is underestimating the importance of supply side effects.
Number of Pages in PDF File: 13
Keywords: cost channel, investment finance, Taylor rule, indeterminacy
JEL Classification: E32, E52Accepted Paper Series
Date posted: January 6, 2012
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