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Federal Reserve Bank of Boston
Working Papers
Optimal monetary policy in a model with habit formation
Jeffrey C. Fuhrer
Abstract

A number of recent papers have explored monetary policy options, including inflation targeting and inflation forecast targeting (notably Svensson (1999a, 1999b, 2000)) and price level targeting (Wolman 2000, Batini and Yates 1999, Blinder 1999). Most papers explore "optimal" monetary policy in the context of a single model. However, a number of conclusions made in the literature depend strongly on the model specification used. In addition, most papers have used the efficient policy frontier concept to define optimal monetary policy. This paper investigates the behavior of a variety of small structural macro models under a variety of targeting rules. The paper examines both minimum variance policy frontiers and utility-maximizing policy. In the latter case, an explicit model of consumer behavior with inflation-induced tax distortions is explored. The paper examines the improvement in utility from an optimal price-level target and re-examines the improvement in utility in moving from a positive to a zero target inflation rate.


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Jeffrey C. Fuhrer, Optimal monetary policy in a model with habit formation, Federal Reserve Bank of Boston, Working Papers 00-5, 2000.
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Keywords: Monetary policy ; Interest rates ; Consumer behavior
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