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Misery index
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The theoretical literature that neglects the benefits of stabilization policies (e.g., Lucas 1987, 2003) ultimately relies on the low impact of macroeconomic volatility on aggregate income and consumption. We argue that this conclusion is theoretically and empirically weak. Theoretically, the cost of volatility should be measured by including not only monetary magnitudes, but also those psychological costs whose relevance has been stressed by behavioural economics and that are correlated with the number of unemployment episodes. We refer here to implications for the experienced utility of loss aversion, the endowment effect and hedonic adaptation. Empirically, downturns more severely affect those who have less and who suffer greater well-being losses from each shock, magnifying the negative impact of recessions. It follows that the traditional analysis, which disregards the main causes of well-being losses determined by downturns, cannot represent a sound basis for dismissing policies aimed at preventing downturns (and/or their impact on the labour market).
Endowment
Consumption
Loss aversion
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Overlapping generations model
Consumption
Robustness
Capital (architecture)
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Capital (architecture)
Terms of trade
Value (mathematics)
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This paper argues that the rate of equilibrium unemployment depends on the objectives of the Central Bank. In a model where the Central Bank uses monetary policy to stabilise the economy, we show that unemployment and inflation will be lower with an inflation target than with targets for output, money or nominal GDP. The intuition for this is that the elasticities of demand in both the product and the labour markets are greater when there is an inflation target; we show that this leads to a lower mark‐up of price over marginal cost and makes wages more sensitive to unemployment.
Intuition
Misery index
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New Keynesian economics
Market clearing
Price setting
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Rationing
Nonmarket forces
Market clearing
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Laffer curve
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New Keynesian economics
Output gap
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