Working Paper: CEPR ID: DP10105
Authors: Emiliano Santoro; Ivan Petrella; Damjan Pfajfar; Edoardo Gaffeo
Abstract: There is widespread evidence that monetary policy exerts asymmetric effects on output over contractions and expansions in economic activity, while price responses display no sizeable asymmetry. To rationalize these facts we develop a dynamic general equilibrium model where households? utility depends on consumption deviations from a reference level below which loss aversion is displayed. State-dependent degrees of real rigidity and elasticity of intertemporal substitution in consumption generate competing effects on output and inflation. Contractions face the Central Bank with higher responsiveness of output to interest rate changes, as well as a flatter aggregate supply schedule.
Keywords: Asymmetry; Business Cycle; Monetary Policy; Prospect Theory
JEL Codes: D03; D11; E32; E42; E52
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| monetary policy innovations (E52) | output (C67) |
| economic contractions (E32) | elasticity of intertemporal substitution (D15) |
| monetary policy innovations (E52) | inflation (E31) |
| loss-averse preferences (D81) | marginal rate of substitution (D11) |
| marginal rate of substitution (D11) | firms' pricing behavior (L11) |