Working Paper: NBER ID: w11523
Authors: Andrew T. Levin; Alexei Onatski; John C. Williams; Noah Williams
Abstract: We use a micro-founded macroeconometric modeling framework to investigate the design of monetary policy when the central bank faces uncertainty about the true structure of the economy. We apply Bayesian methods to estimate the parameters of the baseline specification using postwar U.S. data, and then determine the policy under commitment that maximizes household welfare. We find that the performance of the optimal policy is closely matched by a simple operational rule that focuses solely on stabilizing nominal wage inflation. Furthermore, this simple wage stabilization rule is remarkably robust to uncertainty about the model parameters and to various assumptions regarding the nature and incidence of the innovations. However, the characteristics of optimal policy are very sensitive to the specification of the wage contracting mechanism, thereby highlighting the importance of additional research regarding the structure of labor markets and wage determination.
Keywords: Monetary Policy; Macroeconometric Models; Bayesian Methods; Wage Inflation; Household Welfare
JEL Codes: C11; C22; E31; E52; E61; E63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| optimal monetary policy (E63) | household welfare (I38) |
| wage stabilization rule (J38) | welfare costs (I30) |
| specification of wage contracts (J41) | welfare costs (I30) |
| nominal wage inertia (J31) | effectiveness of monetary policy (E52) |