Sticky Prices versus Monetary Frictions: An Estimation of Policy Trade-Offs
85 Pages Posted: 14 May 2009
Date Written: April 3, 2009
The authors develop a two-sector monetary model with a centralized and decentralized market. Activities in the centralized market resemble those in a standard New Keynesian economy with price rigidities. In the decentralized market agents engage in bilateral exchanges for which money is essential. The model is estimated and evaluated based on postwar U.S. data. They document its money demand properties and determine the optimal long-run inflation rate that trades off the New Keynesian distortion against the distortion caused by taxing money and hence transactions in the decentralized market. The authors find that target rates of -1% or less are desirable, which contrasts with policy recommendations derived from a cashless New Keynesian model.
Keywords: Long-run inflation target, monetary models, welfare costs of inflation, bayesian estimation
JEL Classification: C5, E4, E5
Suggested Citation: Suggested Citation