Monetary Policy and Multiple Equilibria

Jess Benhabib, Stephanie Schmitt-Grohé, Martín Uribe

American Economic Review · 2001 · Volume 91 · Issue 1

Abstract

This paper characterizes conditions under which interest-rate feedback rules that set the nominal interest rate as an increasing function of the inflation rate induce aggregate instability by generating multiple equilibria. It shows that these conditions depend not only on the monetary-fiscal regime (as emphasized in the fiscal theory of the price level) but also on the way in which money is assumed to enter preferences and technology. It provides a number of examples in which, contrary to what is commonly believed, active monetary policy gives rise to multiple equilibria and passive monetary policy renders the equilibrium unique.

Keywords

Monetary Policy, Price Level, Inflation, Deflation, Comparative or Joint Analysis of Fiscal and Monetary Policy, Stabilization Policy

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