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Optimal monetary policy with durable and non-durable goods

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Author Info
Christopher J. Erceg
Andrew T. Levin

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Abstract

The durable goods sector is much more interest sensitive than the non-durables sector, and these sectoral differences have important implications for monetary policy. In this paper, we perform VAR analysis of quarterly US data and find that a monetary policy innovation has a peak impact on durable expenditures that is roughly five times as large as its impact on non-durable expenditures. We then proceed to formulate and calibrate a two-sector dynamic general equilibrium model that roughly matches the impulse response functions of the data. While the social welfare function involves sector-specific output gaps and inflation rates, we find that performance of the optimal policy rule can be closely approximated by a very simple rule that targets a weighted average of aggregate wage and price inflation rates. In contrast, some commonly-prescribed policy rules (such as strict price inflation targeting and Taylor's rule) perform very poorly in terms of social welfare.

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Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 748.

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Date of creation: 2002
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Related research
Keywords: Monetary policy ; Durable goods; Consumer;

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This paper has been announced in the following NEP Reports: References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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  4. Gali, Jordi, 1993. "Variability of Durable and Nondurable Consumption: Evidence for Six O.E.C.D. Countries," The Review of Economics and Statistics, MIT Press, vol. 75(3), pages 418-28, August. [Downloadable!] (restricted)
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  5. Marvin Goodfriend, 1997. "Monetary policy comes of age: a 20th century odyssey," Economic Quarterly, Federal Reserve Bank of Richmond, issue Win, pages 1-22. [Downloadable!]
  6. Baxter, Marianne, 1996. "Are Consumer Durables Important for Business Cycles?," The Review of Economics and Statistics, MIT Press, vol. 78(1), pages 147-55, February. [Downloadable!] (restricted)
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  9. Robert King & Alexander L. Wolman, 1999. "What Should the Monetary Authority Do When Prices Are Sticky?," NBER Chapters, in: Monetary Policy Rules, pages 349-404 National Bureau of Economic Research, Inc. [Downloadable!]
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  11. Michael J. Hamburger, 1967. "Interest rates and the demand for consumer durable goods," Staff Studies 41, Board of Governors of the Federal Reserve System (U.S.).
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  13. Masao Ogaki & Carmen M. Reinhart, 1998. "Measuring Intertemporal Substitution: The Role of Durable Goods," Journal of Political Economy, University of Chicago Press, vol. 106(5), pages 1078-1098, October. [Downloadable!] (restricted)
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  14. Parks, Richard W, 1974. "The Demand and Supply of Durable Goods and Durability," American Economic Review, American Economic Association, vol. 64(1), pages 37-55, March. [Downloadable!] (restricted)
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  17. Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc. [Downloadable!]
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  20. Lawrence J. Christiano & Martin Eichenbaum, 1990. "Current real business cycle theories and aggregate labor market fluctuations," Discussion Paper / Institute for Empirical Macroeconomics 24, Federal Reserve Bank of Minneapolis. [Downloadable!]
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  21. Mishkin, Frederic S, 1976. "Illiquidity, Consumer Durable Expenditure, and Monetary Policy," American Economic Review, American Economic Association, vol. 66(4), pages 642-54, September. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Andrew Levin & Volker Wieland & John C. Williams, 2003. "The Performance of Forecast-Based Monetary Policy Rules under Model Uncertainty," CFS Working Paper Series 2003/06, Center for Financial Studies. [Downloadable!]
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  2. Robert Barsky & Christopher L. House & Miles Kimball, 2005. "Sticky Price Models and Durable Goods," Macroeconomics 0501031, EconWPA. [Downloadable!]
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  3. Javier Andrés & Pablo Burriel & Ángel Estrada, 2006. "BEMOD: a DSGE model for the Spanish economy and the rest of the Euro area," Banco de España Working Papers 0631, Banco de España. [Downloadable!]
  4. Alexander L. Wolman & Fan Ding, 2005. "Inflation and changing expenditure shares," Economic Quarterly, Federal Reserve Bank of Richmond, issue Win, pages 1-20. [Downloadable!]
  5. Lutz Kilian & Atsushi Inoue, 2003. "On the selection of forecasting models," Working Paper Series 214, European Central Bank. [Downloadable!]
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  6. Jonathan N. Millar, 2005. "Gestation lags for capital, cash flows, and Tobin's Q," Finance and Economics Discussion Series 2005-24, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
  7. Eva Ortega & Nooman Rebei, 2006. "The Welfare Implications of Inflation versus Price-Level Targeting in a Two-Sector, Small Open Economy," Working Papers 06-12, Bank of Canada. [Downloadable!]
  8. Héctor Bravo L. & Carlos García T. & Verónica Mies M. & Matías Tapia G., 2003. "Heterogeneidad de la Transmisión Monetaria: Efectos Sectoriales y Regionales," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 6(3), pages 5-26, December. [Downloadable!]
  9. Engin Kara & Huw Dixon, 2005. "Persistence and Nominal Inertia in a Generalised Taylor Economy: How Loner Contracts Dominate Shorter Contracts," Money Macro and Finance (MMF) Research Group Conference 2005 82, Money Macro and Finance Research Group. [Downloadable!]
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  10. Marek Jarocinski & Frank R. Smets, 2008. "House prices and the stance of monetary policy," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 339-366. [Downloadable!]
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  11. Cornelia Holthausen & Jean-Charles Rochet, 2002. "Efficient pricing of large value interbank payment systems," Working Paper Series 184, European Central Bank. [Downloadable!]
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  12. Ippei Fujiwara, Naoko Hara, Naohisa Hirakata, Takeshi Kimura, and Shinichiro Watanabe, 2007. "Japanese Monetary Policy during the Collapse of the Bubble Economy: A View of Policymaking under Uncertainty," Monetary and Economic Studies, Institute for Monetary and Economic Studies, Bank of Japan, vol. 25(2), pages 89-128, November. [Downloadable!]
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  13. Todd E. Clark, 2003. "Disaggregate evidence on the persistence of consumer price inflation," Research Working Paper RWP 03-11, Federal Reserve Bank of Kansas City. [Downloadable!]
    Other versions:
  14. Frank Smets, 2007. "Housing is the business cycle: commentary," Proceedings, Federal Reserve Bank of Kansas City, pages 235-243. [Downloadable!]
  15. Campbell Leith & Jim Malley, 2003. "A Sectoral Analysis of Price-Setting Behavior in US Manufacturing Industries," CESifo Working Paper Series CESifo Working Paper No. , CESifo Group Munich. [Downloadable!]
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  16. Gino Cateau, 2005. "Monetary Policy under Model and Data-Parameter Uncertainty," Working Papers 05-6, Bank of Canada. [Downloadable!]
  17. Andrew T. Levin & John C. Williams, 2003. "Robust monetary policy with competing reference models," Working Papers in Applied Economic Theory 2003-10, Federal Reserve Bank of San Francisco. [Downloadable!]
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  18. Jean Imbs & Eric Jondeau & Florian Pelgrin, 2007. "Aggregating Phillips curves," Working Paper Series 785, European Central Bank. [Downloadable!]
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  19. Yuriy Gorodnichenko & Matthew D. Shapiro, 2006. "Monetary Policy When Potential Output is Uncertain: Understanding the Growth Gamble of the 1990s," NBER Working Papers 12268, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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