1887

OECD Economics Department Working Papers

Working papers from the Economics Department of the OECD that cover the full range of the Department’s work including the economic situation, policy analysis and projections; fiscal policy, public expenditure and taxation; and structural issues including ageing, growth and productivity, migration, environment, human capital, housing, trade and investment, labour markets, regulatory reform, competition, health, and other issues.

The views expressed in these papers are those of the author(s) and do not necessarily reflect those of the OECD or of the governments of its member countries.

English, French

Oil Price Shocks, Rigidities and the Conduct of Monetary Policy

Some Lessons from a New Keynesian Perspective

The strong and sustained rise in oil prices observed in recent years poses a challenge to monetary policy and its ability to simultaneously achieve low inflation and stable output. Against this background, the paper studies monetary policy in a small open economy New Keynesian DSGE model including oil as a production input and a component of final demand. It investigates the performance of alternative price level definitions, notably headline and core CPI, in standard interest rate rules with respect to output and inflation stabilisation. The analysis puts special emphasis on the impact of price and real wage rigidity and their interaction on the policy trade-off induced by the oil price shock. While the degree of price rigidity alone is found to have little impact on the shock transmission and generates only small differences between alternative monetary strategies, the simulations suggest a more important role for real wage stickiness. Real wage stickiness triggers second round effects and complicates stabilisation whatever the policy rule. A focus on core inflation tends to limit the contraction of output in this context. The results also point to some interaction between nominal price and real wage rigidities. In the presence of real wage rigidity, greater price flexibility is found to be destabilising, as it amplifies the initial inflation effect of shocks, thereby triggering a stronger monetary policy response and a larger output effect.

English

Keywords: oil price shocks, monetary policy, price stickiness, real wage rigidity, DSGE model
JEL: Q43: Agricultural and Natural Resource Economics; Environmental and Ecological Economics / Energy / Energy and the Macroeconomy; F41: International Economics / Macroeconomic Aspects of International Trade and Finance / Open Economy Macroeconomics; E30: Macroeconomics and Monetary Economics / Prices, Business Fluctuations, and Cycles / Prices, Business Fluctuations, and Cycles: General (includes Measurement and Data)
This is a required field
Please enter a valid email address
Approval was a Success
Invalid data
An Error Occurred
Approval was partially successful, following selected items could not be processed due to error