Working Paper: CEPR ID: DP12601
Authors: Florin Ovidiu Bilbiie
Abstract: THANK is a tractable heterogeneous-agent New-Keynesian model that captures analytically core micro-heterogeneity channels of quantitative-HANK: cyclical inequality and risk; self-insurance, precautionary saving, and realistic intertemporal marginal propensities to consume. I use it to elucidate key transmission mechanisms and dynamic properties of HANK models. Countercyclical inequality yields aggregate-demand amplification and makes determinacy with Taylor rules more stringent; but solving the forward guidance puzzle requires procyclical inequality: a Catch-22. Solutions include combining inequality with a distinct risk channel, with compensating cyclicalities; I provide evidence that disposable income inequality was procyclical in the last two, Great and COVID recessions, while risk is countercyclical. Alternative policy rules also solve the Catch-22, e.g. price-level-targeting or, in the model version with liquidity, setting nominal public debt. Optimal policy with heterogeneity features a novel inequality-stabilization motive generating higher inflation volatility---but is unaffected by risk, insofar as the target efficient equilibrium entails no inequality.
Keywords: heterogeneity; inequality; liquidity; tractable HANK; optimal monetary policy; forward guidance puzzle; Taylor and Wicksellian rules; determinacy; multipliers
JEL Codes: E21; E31; E40; E44; E50; E52; E58; E60; E62
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| procyclical inequality (D59) | amplification in aggregate demand (E00) |
| countercyclical inequality (D31) | dampening effect on consumption responsiveness (D12) |
| countercyclical inequality (D31) | exacerbation of forward guidance puzzle (E60) |
| Wicksellian price-level targeting rule (E31) | resolution of forward guidance puzzle (E61) |
| optimal monetary policy (E63) | incorporation of stabilization motive for inequality (D52) |
| cyclical inequality (E32) | higher inflation volatility (E31) |