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Monetary Policy and Automatic Stabilizers: The Role of Progressive Taxation
Author(s) -
MATTESINI FABRIZIO,
ROSSI LORENZA
Publication year - 2012
Publication title -
journal of money, credit and banking
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.763
H-Index - 108
eISSN - 1538-4616
pISSN - 0022-2879
DOI - 10.1111/j.1538-4616.2012.00512.x
Subject(s) - economics , new keynesian economics , phillips curve , volatility (finance) , welfare , inflation (cosmology) , monetary economics , monetary policy , keynesian economics , macroeconomics , econometrics , market economy , physics , theoretical physics
We study the effects of progressive labor income taxation in an otherwise standard New Keynesian (NK) model. We show that progressive taxation (i) introduces a trade‐off between output and inflation stabilization and affects the slope of the Phillips Curve, (ii) acts as automatic stabilizer changing the responses to technology shocks and demand shocks, and (iii) alters the prescription for the optimal monetary policy. The welfare gains from commitment decrease as labor income taxes become more progressive. Quantitatively, the model reproduces the observed negative correlation between the volatility of output, hours, and inflation and the degree of progressivity of labor income taxation.