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Nominal Rigidities, Monetary Policy And Pigou Cycles

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Executive Summary

A chief goal of the Pigou cycle literature is to generate a boom in response to news of a future increase in productivity and a bust if this improvement does not in fact take place. The authors find that monetary policy can generate Pigou cycles in a two sector model with durables and non-durables, and nominal price rigidities - even when the Ramsey-optimal policy displays no such cycles. Estimated interest rate rules are a good fit to data simulated under the Ramsey policy, implying that policymakers could come close to replicating the Ramsey-optimal policy.

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