Endogenous Monetary Policy Regime Change
Federal Reserve Bank of Kansas City
Eric M. Leeper
Indiana University at Bloomington - Department of Economics; National Bureau of Economic Research (NBER)
August 28, 2006
CAEPR Working Paper No. 2006-002
This paper makes changes in monetary policy rules (or regimes) endogenous. Changes are triggered when certain endogenous variables cross specified thresholds. Rational expectations equilibria are examined in three models of threshold switching to illustrate that (i) expectations formation effects generated by the possibility of regime change can be quantitatively important; (ii) symmetric shocks can have asymmetric effects; (iii) endogenous switching is a natural way to formally model preemptive policy actions. In a conventional calibrated model, preemptive policy shifts agents' expectations, enhancing the ability of policy to offset demand shocks; this yields a quantitatively significant "preemption dividend."
Number of Pages in PDF File: 36
Keywords: Markov switching, Taylor rule, expectations formation
JEL Classification: E31, E32, E52, E58
Date posted: September 28, 2006
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