Authors

• Beatriz de Blas(beatriz.blas@uc3m.es)
  School of Economics and Business Administration, University of Navarra

Abstract
The stabilization effects of Taylor rules are analyzed in a limited participation framework with and without credit market imperfections in capital goods production. Financial frictions substantially amplify the impact of shocks, and also reinforce the stabilizing or destabilizing effects of interest rate rules. However, these effects are reversed relative to New Keynesian models: under limited participation, interest rate rules are stabilizing for productivity shocks, but imply an output-inflation tradeoff for demand shocks. Moreover, because financial frictions imply excessive fluctuation, stabilization via an interest rate rule can be a welfare-improving response to productivity shocks.

Classification JEL:E13, E44, E5

Keywords:financial frictions, Taylor rules, limited participation, stabilization policy.

Number of Pages:32

Creation Date:2005-11-01

Number:null/05