Seminar in Macroeconomics - Gernot Müller (University of Tuebingen)

Distorted Prices and Targeted Taxes in the New Keynesian Network Model

Tuesday 12 November 2024 - 12h15 to 13h30 - General public

Extranef 109



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The defining feature of the New Keynesian model is that goods prices are adjusted infrequently. In the one-sector version of the model, goods are intrinsically homogeneous and should trade at the same price. By targeting inflation, monetary policy can achieve the efficient allocation. In the network version of the model, sectoral shocks call for an adjustment of relative prices and give rise to a trade-off between adjusting relative prices across sectors and maintaining price stability within sectors. Monetary policy alone can no longer achieve the first best. Against this background, we study the optimal tax response to sectoral shocks. It features twice as many tax instruments as there are sectors, is budget-neutral, and is not confined to the sector where the shock originates. A simple rule that targets sectoral inflation approximates the optimal policy well. We illustrate the quantitative relevance of our results using a calibrated version of the model.

Published from 20 August 2024 to 13 November 2024
Gianluca Benigno
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