Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/252120 
Year of Publication: 
2022
Series/Report no.: 
CESifo Working Paper No. 9603
Publisher: 
Center for Economic Studies and ifo Institute (CESifo), Munich
Abstract: 
We study optimal monetary policy during temporary supply contractions when aggregate demand has inertia and expansionary policy is constrained. In this environment, it is optimal to run the economy hot until supply recovers. Positive output gaps in the low-supply phase lessen the negative output gaps expected to emerge once supply recovers. However, the policy does not remain loose throughout the low-supply phase: The central bank undoes the initial interest rate cuts once aggregate demand gains momentum. If inflation also has inertia, the central bank still overheats the economy during the low-supply phase but gradually cools it down over time.
Subjects: 
monetary policy
interest rates
temporary supply shocks
aggregate demand inertia
inflation
Taylor rule
divine coincidence
policy frontloading
momentum
output and inflation gaps
the Phillips curve
Covid-19
JEL: 
E21
E32
E43
E44
E52
G12
Document Type: 
Working Paper
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