Standard real business cycle models must rely on total factor productivity (TFP) shocks to explain the observed comovement of consumption, investment, and hours worked. This paper shows that a neoclassical model consistent with observed heterogeneity in labor supply and consumption can generate...

New Keynesian theory identifies a set of principles central to the design and implementation of monetary policy. These principles rely on the ability of a central bank to manage expectations precisely, with policy prescriptions typically derived under the assumption of perfect information and...

Survey data on expectations of a range of macroeconomic variables exhibit low-frequency drift. In a New Keynesian model consistent with these empirical properties, optimal policy in general delivers a positive inflation rate in the long run. Two special cases deliver classic outcomes under...