Working Paper: CEPR ID: DP15197
Authors: Guillaume Plantin
Abstract: In a model with multiple price-setting equilibria with varying price rigidity a la Ball and Romer (1991), a central bank using a Taylor rule may inadvertly create asset bubbles instead of reaching its inflation target regardless of the value of the natural rate. These monetary bubbles differ from natural ones in three important ways: i) They do not push up the interest rate no matter their size and thus earn low returns themselves; ii) They burst when inflation picks up; iii) They always crowd out investment by draining resources from the most financially constrained agents.
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JEL Codes: No JEL codes provided
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Central bank using a Taylor rule (E52) | creation of asset bubbles (G10) |
| Monetary bubbles (E49) | low returns (G19) |
| Monetary bubbles (E49) | crowd out investment (F21) |
| Inflation (E31) | bursting of monetary bubbles (E32) |