Monetary Policy and Heterogeneity: An Analytical Framework

JIWP Number: 2420

Bilbiie, F. O.

Abstract
THANK is a tractable heterogeneous-agent New-Keynesian model that captures analytically core micro heterogeneity channels of quantitative-HANK: cyclical inequality and risk; self-insurance, pre-cautionary saving, and realistic intertemporal marginal propensities to consume. I use it to elucidate key transmission mechanisms and dynamic properties of HANK models. Countercyclical inequality yields aggregate-demand amplification and makes determinacy with Taylor rules more stringent; but solving the forward guidance puzzle requires procyclical inequality: a Catch-22. Solutions include combining inequality with a distinct risk channel, with compensating cyclicalities; I provide evidence that disposable income inequality was procyclical in the last two, Great and COVID recessions, while risk is countercyclical. Alternative policy rules also solve the Catch-22, e.g. price-level-targeting or, in the model version with liquidity, setting nominal public debt. Optimal policy with heterogeneity features a novel inequality-stabilization motive generating higher inflation volatility—but is unaffected by risk, insofar as the target efficient equilibrium entails no inequality
Classification JEL
E21
E31
E40
E44
E50
E52
E58
E60
E62
WP Number Type
JIWP
JI Research Theme