Seigniorage and Distortionary Taxation in a Model with Heterogeneous Agents and Idiosyncratic Uncertainty

In this paper we study the optimal monetary and fiscal policy mix in a model in which agents are subject to idiosyncratic uninsurable shocks to their labor productivity. We identify two main effects of anticipated inflation absent in representative agent frameworks. First, inflation stimulates saving for precautionary reasons. Hence, a higher level of anticipated inflation implies a higher capital stock in steady state, which translates into higher wages and lower taxes on labor income. This benefits poor, less productive agents. Second, inflation acts as a regressive consumption tax, which favors rich and productive agents. We calibrate our model economy to the U.S. economy and compute the optimal policy mix. We find that, for a utilitarian government, the Friedman rule is optimal even when we allow for the presence of heterogeneity and uninsurable idiosyncratic risk. Although the aggregate welfare costs of inflation are small, individual costs and benefits are large. Net winners from inflation are poor, less productive agents, while middle-class and rich households are always net losers.

Price Level Targeting and Inflation Targeting: a Review

In this paper we discuss the arguments for and against the adoption of price-level targeting. We review recent theoretical contributions, and illustrate the main differences between price-level targeting and inflation targeting in a simple New Keynesian model. We conclude that, contrary to conventional wisdom, price-level targeting can, in some circumstances, deliver better outcomes than inflation targeting. Its main advantage lies on the fact that it acts as a commitment device when the Central Bank is unable to commit to its future actions. However, even in the circumstances under which price-level targeting performs better, there are three caveats to be considered. First, a higher proportion of backward-looking price setters reduces the effectiveness of price-level targeting, because it weakens the expectational channel through which price-level targeting operates. Second, communicating a price-level target may be a difficult task for the Central Bank. Finally, price-level targeting itself is not immune to considerations of time-inconsistency.

Monetary Policy Rules with Financial Instability

To provide a rigorous analysis of monetary policy in the face of financial instability, the authors extend the standard dynamic stochastic general equilibrium model to include a financial system. Their simulations suggest that if financial stability affects output and inflation with a lag, and if the central bank has privileged information about financial stability, then monetary policy responding instantly to deteriorating financial stability can trade off more output and inflation instability today for a faster return to the trend than a policy that follows the traditional Taylor rule. This augmented rule leads in some parameterizations to improved outcomes in terms of long-term welfare, but the welfare impacts of such a rule are small.DSGE models, financial instability, monetary policy rule

Seigniorage and distortionary taxation in a model with heterogeneous agents and idiosyncratic uncertainty

En este artículo estudiamos el mix óptimo de política monetaria y fiscal en un modelo en el cual los agentes están sujetos a shocks idiosincrásicos y no asegurables a su productividad laboral. Identificamos dos efectos principales de la inflación anticipada que están ausentes en modelos bajo el supuesto de agente representativo. En primer lugar, la inflación estimula el ahorro por motivo precautorio. Por lo tanto, un mayor nivel de inflación anticipada implica un mayor stock de capital de estado estacionario, lo cual se traduce en mayores salarios y una menor tasa impositiva al ingreso laboral. Esto beneficia a los individuos más pobres y menos productivos. En segundo lugar, la inflación actúa como un impuesto regresivo al consumo, lo cual favorece a individuos más ricos y productivos. Calibramos el modelo a la economía de EE.UU. y computamos el mix de política óptimo. Encontramos que, para un gobierno utilitario, la regla de Friedman es óptima incluso cuando permitimos la presencia de heterogeneidad y riesgo idiosincrático no asegurable. A pesar de que los costos agregados de la inflación son bajos, los costos o beneficios individuales son altos. Los agentes que ganan con la inflación son aquellos individuos pobres y menos productivos, mientras que los que pierden son los más productivos y ricos.In this paper we study the optimal monetary and fiscal policy mix in a model in which agents are subject to idiosyncratic uninsurable shocks to their labor productivity. We identify two main effects of anticipated inflation absent in representative agent frameworks. First, inflation stimulates saving for precautionary reasons. Hence, a higher level of anticipated inflation implies a higher capital stock in steady state, which translates into higher wages and lower taxes on labor income. This benefits poor, less productive agents. Second, inflation acts as a regressive consumption tax, which favors rich and productive agents. We calibrate our model economy to the U.S. economy and compute the optimal policy mix. We find that, for a utilitarian government, the Friedman rule is optimal even when we allow for the presence of heterogeneity and uninsurable idiosyncratic risk. Although the aggregate welfare costs of inflation are small, individual costs and benefits are large. Net winners from inflation are poor, less productive agents, while middle-class and rich households are always net losers

A note on the large-firm matching model: can a nonbinding minimum wage reduce wages and employment?

We show that, in the large-firm search model, employment may decrease even when the level of the introduced minimum wage lies below the equilibrium wage of the laissez-faire economy. Wages also decrease in the presence of the minimum wage. The argument is based on multiple equilibria and the idea that, in a large-firm context, the representative firm may choose to overemploy workers in order to renegotiate lower wages.CONICYT PIA SOC 1402 / Fondecyt 1151053/ Milennium Institute for Research in Market Imperfections and Public Policy (Ministerio de Economa, Fomento y Turismo) ICM IS13000

Price level targeting and inflation targeting: A review

In this paper we discuss the arguments for and against the adoption of price-level targeting. We review recent theoretical contributions, and illustrate the main differences between price-level targeting and inflation targeting in a simple New Keynesian model. We conclude that, contrary to conventional wisdom, price-level targeting can, in some circumstances, deliver better outcomes than inflation targeting. Its main advantage lies on the fact that it acts as a commitment device when the Central Bank is unable to commit to its future actions. However, even in the circumstances under which price-level targeting performs better, there are three caveats to be considered. First, a higher proportion of backward-looking price setters reduces the effectiveness of price-level targeting, because it weakens the expectational channel through which price-level targeting operates. Second, communicating a price-level target may be a difficult task for the Central Bank. Finally, price-level targeting itself is not immune to considerations of time-inconsistency.En este trabajo discutimos los argumentos a favor y en contra de la adopción de un esquema de política monetaria de metas de nivel de precios. Revisamos las contribuciones teóricas recientes, e ilustramos las principales diferencias entre esquemas de metas de nivel de precios y metas de inflación en un modelo neo-keynesiano simple. Concluimos que, contrariamente a la creencia convencional, un esquema de metas de nivel de precios puede, en algunas circunstancias, arrojar mejores resultados que un esquema de metas de inflación. Su principal ventaja reside en el hecho de que este esquema actúa como un mecanismo de compromiso cuando el Banco Central no puede comprometerse a acciones futuras. Sin embargo, incluso en las circunstancias en las que el esquema de metas de nivel de precios se desempeña mejor, existen tres desventajas a tener en cuenta. En primer lugar, una proporción alta de agentes que fijan precios teniendo en cuenta información pasada reduce la efectividad del esquema de metas de nivel de precios, ya que debilita el mecanismo de expectativas bajo el cual opera el esquema. En segundo lugar, comunicar una meta para el nivel de precios puede ser difícil para el Banco Central. Finalmente, un esquema de metas de nivel de precios no es inmune a consideraciones de inconsistencia temporal

Optimal Fiscal Policy in a Small Open Economy with Limited Commitment

We introduce limited commitment into a standard optimal fiscal policy model in small open economies. We consider the problem of a benevolent government that signs a risk-sharing contract with the rest of the world, and that has to choose optimally distortionary taxes on labor income, domestic debt and international debt. Both the home country and the rest of the world may have limited commitment, which means that they can leave the contract if they find it convenient. The contract is designed so that, at any point in time, neither party has incentives to exit. We define a small open emerging economy as one where the limited commitment problem is active in equilibrium. Conversely, a small open developed economy is an economy with full commitment. Our model is able to rationalize two stylized facts about fiscal policy in emerging economies: i) the volatility of tax revenues over GDP is higher in emerging economies than in developed ones; ii) the volatility of tax revenues over GDP is positively correlated with sovereign default riskEn este artículo introducimos compromiso parcial en un modelo estándar de política fiscal óptima para economías pequeñas y abiertas. Consideramos el problema de un planificador benevolente que suscribe un contrato de riesgo compartido con el resto del mundo, y que tiene que elegir de manera óptima impuestos distorsivos al ingreso por trabajo, deuda doméstica y deuda internacional. Tanto la economía doméstica como el resto del mundo pueden tener compromiso parcial, lo cual implica que pueden abandonar el contrato si lo estiman conveniente. El contrato es diseñado de manera que, en cualquier momento del tiempo, ninguna de las partes tiene incentivos a abandonarlo. Definimos una pequeña economía abierta emergente como una economía donde el problema de compromiso parcial está activo en equilibrio. Por el contrario, una pequeña economía abierta desarrollada es una economía con compromiso total. Nuestro modelo puede racionalizar dos hechos estilizados sobre política fiscal en economías emergentes: i) la volatilidad de la recaudación tributaria sobre PIB es mayor en economías emergentes que en economías desarrolladas, ii) la volatilidad de la recaudación tributaria sobre PIB está positivamente correlacionada con el riesgo de default soberano