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INVESTMENT AND FORWARD-LOOKING MONETARY POLICY: A WICKSELLIAN SOLUTION TO THE PROBLEM OF INDETERMINACY

Published online by Cambridge University Press:  19 January 2017

Stephen McKnight
Stephen McKnight*
Affiliation:
El Colegio de México
*
Address correspondence to: Stephen McKnight, Centro de Estudios Económicos, El Colegio de México, Camino al Ajusco 20, Pedregal de Santa Teresa, Mexico City 10740, Mexico; e-mail: mcknight@colmex.mx.
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Abstract

Recent research has shown that forward-looking Taylor rules are subject to indeterminacy in New Keynesian models with capital and investment spending. This paper shows that adopting a forward-looking Wicksellian rule that responds to the price level, rather than to inflation, is one potential remedy for the indeterminacy problem. This result is shown to be robust to variations in both the labor supply elasticity and the degree of price stickiness, the inclusion of capital adjustments costs, and if output also enters into the interest-rate feedback rule. Finally, it is shown that the superiority of Wicksellian rules over Taylor rules is not only confined to forward-looking policy, but also extends to both backward-looking and contemporaneous-looking specifications of the monetary policy rule.

Keywords

Equilibrium DeterminacyInterest-Rate RulesMonetary PolicyInvestmentTaylor Rules
Type
Notes
Information
Macroeconomic Dynamics , Volume 22 , Issue 5 , July 2018 , pp. 1345 - 1369
Copyright
Copyright © Cambridge University Press 2017 

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Footnotes

I am grateful to the Editor, William A. Barnett, an Associate Editor, two anonymous referees, and Qinglai Meng for helpful comments and suggestions. Feedback from seminar participants at El Colegio de México is also acknowledged. The usual disclaimer applies.

References

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