This paper was written while the author was visiting the international research unit at the Federal Reserve Bank of San Francisco (FRBSF). I would like to thank Mark Spiegel, seminar participants at the FRBSF and two anonymous referees for helpful comments. I have also benefited from useful suggestions by Helen Baumer, Richard Dennis, Bart Hobijn, Sylvain Leduc, Zheng Liu, Carlos Montoro, Paul Söderlind, Anita Todd, Carl E. Walsh, and John C. Williams. The views expressed here are the responsibility of the author and should not be interpreted as reflecting the views of the International Monetary Fund or the FRBSF. Remaining errors and omissions are mine.
Monetary Policy Response to Oil Price Shocks
Article first published online: 27 JAN 2012
© 2012 The Ohio State University
Journal of Money, Credit and Banking
Volume 44, Issue 1, pages 53–101, February 2012
How to Cite
NATAL, J.-M. (2012), Monetary Policy Response to Oil Price Shocks. Journal of Money, Credit and Banking, 44: 53–101. doi: 10.1111/j.1538-4616.2011.00469.x
- Issue published online: 27 JAN 2012
- Article first published online: 27 JAN 2012
- Received November 30, 2009; and accepted in revised form December 28, 2010.
- optimal monetary policy;
- oil shocks;
- divine coincidence;
- simple rules
How should monetary authorities react to an oil price shock? This paper shows that in a noncompetitive economy, policies that perfectly stabilize prices entail large welfare costs, hence explaining the reluctance of policymakers to enforce them. The policy trade-off is nontrivial because oil (energy) is an input to both production and consumption. As welfare-maximizing policies are hard to implement and communicate, I derive a simple interest rate rule that depends only on observables but mimics the optimal plan in all dimensions. The optimal rule is hard on core inflation but accommodates oil price changes.