DP16141 Short-term Planning, Monetary Policy, and Macroeconomic Persistence
|Author(s):||Christopher Gust, Edward Herbst, J David López-Salido|
|Publication Date:||May 2021|
|Keyword(s):||Bayesian estimation, Finite-horizon planning, learning, monetary policy, New Keynesian Model|
|JEL(s):||C11, E52, E70|
|Programme Areas:||Monetary Economics and Fluctuations|
|Link to this Page:||cepr.org/active/publications/discussion_papers/dp.php?dpno=16141|
This paper estimates a behavioral New Keynesian (NK) model in which households and firms plan over a finite horizon. The finite-horizon (FH) model outperforms rational expectations versions of the NK model as well as other behavioral NK models. In the FH model, households and firms are forward-looking in thinking about events over their planning horizon but are backward looking regarding events beyond that point. This gives rise to substantial aggregate persistence without resorting to additional features such as habit persistence and price contracts indexed to lagged inflation.