Monetary Policy, Financial Stability, and the Distribution of Risk

Abstract

1 "If one thinks about the important sets of contracts in the economy that are set in nominal terms, and which are unlikely to be implicitly insured or indexed against unanticipated price-level changes, financial contracts (such as debt instruments) come immediately to mind."-Bernanke (1995) 2 See, for example, Fisher (1933, esp.pp.346-48), Bernanke (2003), and Crawford et al. (2009).Similarly, Hall (1984) cites the vulnerability of pensioners to unexpected inflation as a reason to favor policy rules that limit price-level uncertainty.3 All debt is one-period debt in the model developed in this paper, so that price-level and inflation targeting are equivalent.In a more general setting, the question is whether the central bank ought to minimize price-level uncertainty over whatever horizon nominal debt obligations are fixed or, instead, minimize uncertainty about the path of nominal income over that horizon.

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