Monetary policy arithmetic: reconciling theory with evidence

Authors: Nikitin, Maxim¹; Russell, Steven²

Source: Canadian Journal of Economics, Volume 39, Number 1, February 2006 , pp. 348-374(27)

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Abstract:

Empirical evidence indicates that, in countries with low inflation rates, a permanent decrease in inflation rate either has no impact on capital stock and output (superneutrality) or causes them to fall moderately. Existing budget arithmetic models of monetary policy cannot deliver superneutrality. In this paper, we conduct a budget arithmetic analysis of monetary policy using a money demand specification – money in the utility function – that is new to this literature. We find that one simple assumption about utility from money delivers superneutrality, while a more general assumption delivers departures from superneutrality in the direction consistent with the evidence. JEL classification: E60, E13

Document Type: Research article

DOI: http://dx.doi.org/10.1111/j.0008-4085.2005.00350.x

Affiliations: 1: Department of Economics, University of Alberta 2: Department of Economics, IUPUI

Publication date: 2006-02-01