Disinflation costs and macroprudential policies: real and welfare effects
Abstract
Purpose
This paper analyzes real and welfare effects of a permanent change in inflation rate, focusing on macroprudential policy’ role and its interaction with monetary policy.
Design/methodology/approach
While investigating disinflation costs, the authors simulate a medium-scale dynamic general equilibrium model with borrowing constraints, credit frictions and macroprudential authority.
Findings
Providing discussions on different policy scenarios in a context where still it is expected high inflation, there are three key contributions. First, when macroprudential authority actively operates to improve financial stability, losses caused by disinflation are limited. Second, a Taylor rule directly responding to financial variables might entail a trade-off between price and financial stability objectives, by increasing disinflation costs. Third, disinflation is welfare improving for savers, while costly for borrowers and banks. Indeed, while savers benefit from policies reducing price stickiness distortion, borrowers are worried about credit frictions, coming from collateral constraint.
Practical implications
The paper suggests threefold policy implications: the macroprudential authority should actively intervene during a disinflation process to minimize costs and financial instability deriving from it; policymakers should implement a disinflationary policy stabilizing also output; the central bank and the macroprudential regulator should pursue financial and price stability goals, separately.
Originality/value
This paper is the first attempt to study effects of a permanent inflation target reduction in focusing on the macroprudential policy’ role.
Keywords
Acknowledgements
The authors would like to thank from participants at the 25th INFER Annual Conference 2023 and 63rd Annual Meeting of the Italian Economic Association for their insightful comments. The authors wish to thank the participants at the 33rd EBES conference, at the 61st Annual Meeting of the Italian Economic Association, at seminars and workshops at the Warsaw University of Life Sciences - SGGW and the University of Naples Parthenope, for suggestions on the previous version of the paper. The authors also thank very much Anonymous Referees for the helpful and constructive comments and recommendations that are considered in revising the manuscript and are grateful to Iftekhar Hasan for having read a preliminary version of the paper.
Citation
Busato, F., Ferrara, M. and Varlese, M. (2023), "Disinflation costs and macroprudential policies: real and welfare effects", Journal of Economic Studies, Vol. ahead-of-print No. ahead-of-print. https://doi.org/10.1108/JES-03-2023-0161
Publisher
:Emerald Publishing Limited
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