DP8826 Robustly Optimal Monetary Policy in a Microfounded New Keynesian Model
|Author(s):||Klaus Adam, Michael Woodford|
|Publication Date:||February 2012|
|Keyword(s):||belief distortions, near-rational expectations, robust control, target criterion|
|JEL(s):||D81, D84, E52|
|Programme Areas:||International Macroeconomics|
|Link to this Page:||cepr.org/active/publications/discussion_papers/dp.php?dpno=8826|
We consider optimal monetary stabilization policy in a New Keynesian model with explicit microfoundations, when the central bank recognizes that private-sector expectations need not be precisely model-consistent, and wishes to choose a policy that will be as good as possible in the case of any beliefs close enough to model-consistency. We show how to characterize robustly optimal policy without restricting consideration a priori to a particular parametric family of candidate policy rules. We show that robustly optimal policy can be implemented through commitment to a target criterion involving only the paths of inflation and a suitably defined output gap, but that a concern for robustness requires greater resistance to surprise increases in inflation than would be considered optimal if one could count on the private sector to have 'rational expectations'.