Linear-Quadratic Approximation to Unconditionally Optimal Policy: The Distorted Steady-State

Damjanovic, Tatiana; Damjanovic, Vladislav; Nolan, Charles R.

doi:10.2139/ssrn.1112088

Cited by 3 publications

(5 citation statements)

References 52 publications

(10 reference statements)

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“…3 3 Kimbrough (2006) shows that it can happen when the government maximises seignorage. Damjanovic et al. (2008) show that the optimal inflation rate becomes positive when the government discount factor differs from the private one.…”

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confidence: 92%

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Trend Inflation and Firms Price‐Setting: RotembergVersusCalvo

Ascari

Rossi

2012

The Economic Journal

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We compare the Calvo and Rotemberg price‐setting mechanisms in a New Keynesian model with trend inflation. We show that: the long‐run relationship between inflation and output is positive in Rotemberg and negative in Calvo; the dynamics of the two models differ even to a first‐order approximation; positive trend inflation enlarges the determinacy region in the Rotemberg model, whereas it shrinks it in the Calvo model; the responses of output and inflation to technology shocks are amplified by trend inflation in Calvo, whereas they are dampened in Rotemberg; the two models imply differing non‐linear adjustments after a disinflation.

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confidence: 92%

“…Finally, from a normative perspective, some recent papers (Kimbrough, 2006; Damjanovic et al. , 2008; Levine et al.…”

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confidence: 99%

Trend Inflation and Firms Price‐Setting: RotembergVersusCalvo

Ascari

Rossi

2012

The Economic Journal

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“…In that case, even the linear‐quadratic representation of the policy problem would differ for our two policy alternatives, increasing the disparities between their policy recommendations. Benigno and Woodford (2005, 2006) study the implications for the timeless‐perspective policy, while Damjanovic, Damjanovic and Nolan (2008b) do the same for the optimal unconditional continuation policy. The fundamental difference in terms of the distinct treatment of initial‐period policy expectations remains the same.…”

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confidence: 99%

Optimal Continuation versus the Timeless Perspective in Monetary Policy

Jensen¹,

McCallum²

2010

J of Money Credit Banking

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The timeless-perspective approach suggests that policymakers implement in each period policy actions conforming to a rule that would have been fully optimal to adopt in the distant past. A motivating advantage is that policy henceforth would continue by recommending the same optimality conditions if reconsidered, thereby enhancing credibility. We argue that continuation can alternatively be achieved with better results, on average, in terms of policymakers' objectives, by implementing in each period the time-invariant policy that is optimal from the viewpoint of the contemporary understanding of objectives and constraints, but while ignoring the conditions that happen to prevail at the time. Copyright (c) 2010 The Ohio State University.

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“…non-zero) in the presence of small disturbances ξ. 20 Again, sometimes it is possible to arrange for a problem to have this form, through some combination of restrictive model specification and an appropriate change of variables, as in Rotemberg and Woodford (1997). 21 But once again, the class of cases to which this result can be applied are likely to be quite restrictive.…”

Section: Special Casesmentioning

confidence: 99%

“…66 Damjanovic et al (2008) show that one can instead use an LQ approximation to evaluate timeinvariant policy rules under an alternative criterion, which computes the expected value of V t0 under a probability distribution for initial conditions that is independent of the policy rule considered, as in the calculations here, but rather under the ergodic distribution for the endogenous variables associated with the particular time-invariant policy that is to be evaluated. This criterion has the unappealing feature of giving a rule that leads to different long-run average values of an endogenous variable (e.g., the capital stock) "credit" for a higher initial average value of the variable as well.…”

Section: A Lagrangian Approachmentioning

confidence: 99%

Linear-quadratic approximation of optimal policy problems

Benigno

Woodford

2012

Journal of Economic Theory

159

128

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We consider a general class of nonlinear optimal policy problems involving forward-looking constraints (such as the Euler equations that are typically present as structural equations in DSGE models), and show that it is possible, under regularity conditions that are straightforward to check, to derive a problem with linear constraints and a quadratic objective that approximates the exact problem. The LQ approximate problem is computationally simple to solve, even in the case of moderately large state spaces and flexibly parameterized disturbance processes, and its solution represents a local linear approximation to the optimal policy for the exact model in the case that stochastic disturbances are small enough. We derive the second-order conditions that must be satisfied in order for the LQ problem to have a solution, and show that these are stronger, in general, than those required for LQ problems without forward-looking constraints. We also show how the same linear approximations to the model structural equations and quadratic approximation to the exact welfare measure can be used to correctly rank alternative simple policy rules, again in the case of small enough shocks.

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Linear-Quadratic Approximation to Unconditionally Optimal Policy: The Distorted Steady-State

Cited by 3 publications

References 52 publications

Trend Inflation and Firms Price‐Setting: RotembergVersusCalvo

Trend Inflation and Firms Price‐Setting: RotembergVersusCalvo

Optimal Continuation versus the Timeless Perspective in Monetary Policy

Linear-quadratic approximation of optimal policy problems

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