The Discounted Euler Equation: A Note | Zendy

McKay Alisdair | Zendy; Nakamura Emi | Zendy; Steinsson Jón | Zendy

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The Discounted Euler Equation: A Note

Author(s) -

McKay Alisdair,

Nakamura Emi,

Steinsson Jón

Publication year - 2017

Publication title -

economica

Language(s) - English

Resource type - Journals

SCImago Journal Rank - 1.532

H-Index - 65

eISSN - 1468-0335

pISSN - 0013-0427

DOI - 10.1111/ecca.12226

Subject(s) - simple (philosophy) , euler equations , zero lower bound , shock (circulatory) , economics , forward guidance , new keynesian economics , econometrics , interest rate , risk model , mathematical economics , zero (linguistics) , mathematics , keynesian economics , monetary policy , macroeconomics , mathematical analysis , inflation targeting , credit channel , philosophy , linguistics , epistemology , medicine

We present a simple model with income risk and borrowing constraints that yields a ‘discounted Euler equation’. This feature of the model mutes the extent to which news about far future real interest rates (i.e. forward guidance) affects current outcomes. We show that this simple model approximates the outcomes of a rich model with uninsurable income risk and borrowing constraints in response to a forward guidance shock. The model is simple enough to be easily incorporated into simple New Keynesian models. We illustrate this with an application to the zero lower bound.

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