Macroeconometric Equivalence, Microeconomic Dissonance, and the Design of Monetary Policy

FRB of St. Louis Working Paper No. 2008-035A

38 Pages Posted: 12 Oct 2008

See all articles by Andrew T. Levin

Andrew T. Levin

affiliation not provided to SSRN

David Lopez-Salido

Board of Governors of the Federal Reserve System

Edward Nelson

Board of Governors of the Federal Reserve System

Tack Yun

Federal Reserve Board - Division of Monetary Affairs

Date Written: October 8, 2008

Abstract

Many recent studies in macroeconomics have focused on the estimation of DSGE models using a system of loglinear approximations to the models' nonlinear equilibrium conditions. The term macroeconometric equivalence encapsulates the idea that estimates using aggregate data based on first-order approximations to the equilibrium conditions of a DSGE model will not be able to distinguish between alternative underlying preferences and technologies. The concept of microeconomic dissonance refers to the fact that the underlying microeconomic differences become important when optimal monetary policy is analyzed in a nonlinear setting. The relevance of these concepts is established by analysis of optimal steady-state inflation and optimal policy in the stochastic economy using a small-scale New Keynesian model. Microeconomic and financial datasets are promising tools with which to overcome the equivalence problem.

Keywords: macroeconometric equivalence, alternative microfoundations, Ramsey optimal monetary policy, welfare analysis

JEL Classification: E22, E30, E52

Suggested Citation

Levin, Andrew and Lopez-Salido, David and Nelson, Edward and Yun, Tack, Macroeconometric Equivalence, Microeconomic Dissonance, and the Design of Monetary Policy (October 8, 2008). FRB of St. Louis Working Paper No. 2008-035A. Available at SSRN: https://ssrn.com/abstract=1280928 or http://dx.doi.org/10.2139/ssrn.1280928

Andrew Levin

affiliation not provided to SSRN

David Lopez-Salido

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Edward Nelson (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

Tack Yun

Federal Reserve Board - Division of Monetary Affairs ( email )

20th and C Streets, NW
Washington, DC 20551
United States

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