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Monetary Policy, Asset Prices And Model Uncertainty

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Executive Summary

Using a macroeconomic model with asset prices, the authors analyze how optimal monetary policy, and macroeconomic dynamics and performance are affected by the central bank's desire to be robust against model misspecifications. Considering the worst-case model, they show that an increase in the central bank's preference for robustness requires a more aggressive reaction of the optimal nominal interest rate with respect to expected inflation and inflation shocks. According to the value of structural parameters, the economic equilibrium can be stable or saddle-point stable. In both cases, the speed of dynamic convergence is smaller under robust control compared to a benchmark case without it.

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