AUTHOR: Siddhartha Chattopadhyay & Taniya Ghosh
TITLE: Cost Channel, Interest Rate Pass-Through and Optimal Policy under Zero Lower Bound
This paper analyzes optimal monetary policy under zero lower bound in the presence of cost channel. Cost channel introduces trade-off between output and inflation when economy is out of ZLB. As a result, exit time both under discretion and commitment is endogenous in the presence of cost channel. We also find that commitment outperforms discretion by promising future boom and inflation and a T-only policy closely replicates commitment both under presence and absence of cost channel. Moreover, the exit date (from ZLB) under discretion, commitment and T-only policy rises with the magnitude of demand shock given the degree of interest rate pass-through irrespective if the cost channel is present. We also show that,while exit date both under discretion and T-only policy rises with degree of interest rate pass-through/credit market imperfection, it falls under commitment given demand shock.
JEL Classification: E63, E52, E58
Keywords: New-Keynesian Model, Cost Channel, Liquidity Trap