Discussion paper

DP13384 Continuous Time Versus Discrete Time in the New Keynesian Model: Closed-Form Solutions and Implications for Liquidity Trap

Economists often use interchangeably the discrete- and continuous-time versions of the Keynesian model. In the paper, I ask whether or not the two versions effectively lead to the same implications. I analyze several alternative monetary policies, including a Taylor rule, discretionary interest rate choice and forward guidance. I show that the answer depends on a specific scenario and parameterization considered. In particular, in the presence of liquidity trap, the discrete-time analysis helps overcome some negative implications of the continuous-time model, such as excessively strong impact of price stickiness on inflation and output, unrealistically large government multipliers, as well as implausibly large effects of forward guidance.

£6.00
Citation

Maliar, L (2018), ‘DP13384 Continuous Time Versus Discrete Time in the New Keynesian Model: Closed-Form Solutions and Implications for Liquidity Trap‘, CEPR Discussion Paper No. 13384. CEPR Press, Paris & London. https://cepr.org/publications/dp13384