Optimal monetary policy with distinct core and headline inflation rates |
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Authors: | Martin Bodenstein Christopher J Erceg Luca Guerrieri |
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Institution: | Federal Reserve Board, Washington, DC 20551, USA |
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Abstract: | In a stylized DSGE model with an energy sector, the optimal policy response to an adverse energy supply shock implies a rise in core inflation, a larger rise in headline inflation, and a decline in wage inflation. The optimal policy is well approximated by policies that stabilize the output gap, but also by a wide array of “dual mandate” policies that are not overly aggressive in stabilizing core inflation. Finally, policies that react to a forecast of headline inflation following a temporary energy shock imply markedly different effects than policies that react to a forecast of core, with the former inducing greater volatility in core inflation and the output gap. |
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