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The Four-Equation New Keynesian Model

Author

Listed:
  • Eric Sims
  • Jing Cynthia Wu

    (Notre Dame and NBER)

  • Ji Zhang

    (Tsinghua PBCSF)

Abstract

This paper develops a New Keynesian model featuring financial intermediation, short- and long-term bonds, credit shocks, and scope for unconventional monetary policy. The log-linearized model reduces to four equations: Phillips and IS curves, as well as policy rules for the short-term interest rate and the central bank's long-bond portfolio (QE). Credit shocks and QE appear in both the IS and Phillips curves. In equilibrium, optimal monetary policy entails adjusting the short-term interest rate to offset natural rate shocks but using QE to offset credit market disruptions. Use of QE significantly mitigates the costs of a binding zero lower bound.

Suggested Citation

  • Eric Sims & Jing Cynthia Wu & Ji Zhang, 2023. "The Four-Equation New Keynesian Model," The Review of Economics and Statistics, MIT Press, vol. 105(4), pages 931-947, July.
    • Handle: RePEc:tpr:restat:v:105:y:2023:i:4:p:931-947
    DOI: 10.1162/rest_a_01071
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    References listed on IDEAS

    as
    1. Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 83(2), pages 241-254, April.
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    More about this item

    JEL classification:

    • E1 - Macroeconomics and Monetary Economics - - General Aggregative Models
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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