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Monetary policy trade-offs in an estimated open-economy DSGE model |
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| Institution: | 1. School of Finance, Shanghai University of Finance and Economics, 777 Guoding Road, Shanghai 200433, China;2. DeGroote School of Business, McMaster University, Canada;3. China Academy of Financial Research, Shanghai Jiao Tong University, 211 West Huaihai Road, Shanghai 200030, China;1. Yeungnam University, School of International Economics and Business, Republic of Korea;2. Hankuk University of Foreign Studies, Department of Economics, Republic of Korea |
| Abstract: | This paper studies the trade-offs between stabilizing CPI inflation and alternative measures of the output gap in Ramses, the Riksbank?s estimated dynamic stochastic general equilibrium (DSGE) model of a small open economy. Our main finding is that the trade-off between stabilizing CPI inflation and the output gap strongly depends on which concept of potential output in the output gap between output and potential output is used in the loss function. If potential output is defined as a smooth trend this trade-off is much more pronounced compared to the case when potential output is defined as the output level that would prevail if prices and wages were flexible. |
| Keywords: | Optimal monetary policy Instrument rules Open-economy DSGE models Output gap Potential output |
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