scholarly journals Learning, robust monetary policy and the merit of precaution

2018 ◽  
Vol 18 (2) ◽  
Author(s):  
Marine Charlotte André ◽  
Meixing Dai
Keyword(s):  
Monetary Policy ◽  
Private Sector ◽  
Central Bank ◽  
Dynamic Stability ◽  
Adaptive Learning ◽  
Rational Expectations ◽  
New Keynesian ◽  
Inflation Expectations ◽  
Trade Off ◽  
Optimal Behavior

Abstract We study in a New Keynesian framework the consequences of adaptive learning for the design of robust monetary policy. Compared to rational expectations, the fact that private sector follows adaptive learning gives the central bank an additional intertemporal trade-off between optimal behavior in the present and in later periods thanks to its ability to manipulate future inflation expectations. We show that adaptive learning imposes a more restrictive constraint on monetary policy robustness to ensure the dynamic stability of the equilibrium than under rational expectations but strengthens the argument in favor of a more aggressive monetary policy when the central bank fears for model misspecifications.

scholarly journals Robustly Optimal Monetary Policy with Near-Rational Expectations

2010 ◽  
Vol 100 (1) ◽  
pp. 274-303 ◽  
Author(s):  
Michael Woodford
Keyword(s):  
Monetary Policy ◽  
Private Sector ◽  
Central Bank ◽  
Optimal Policy ◽  
Rational Expectations ◽  
Stabilization Policy ◽  
Optimal Monetary Policy ◽  
Inflation Target ◽  
Model Consistency ◽  
Long Run

The paper considers optimal monetary stabilization policy in a forward-looking model, when the central bank recognizes that private sector expectations need not be precisely model-consistent, and wishes to choose a policy that will be as good as possible in the case of any beliefs that are close enough to model-consistency. It is found that commitment continues to be important for optimal policy, that the optimal long-run inflation target is unaffected by the degree of potential distortion of beliefs, and that optimal policy is even more history-dependent than if rational expectations are assumed. (JEL C62, D84, E13, E31, E32, E52)

Inflation expectations: An overview of modern approaches

2019 ◽  
pp. 54-80 ◽  
Author(s):  
N. A. Ranneva
Keyword(s):  
Monetary Policy ◽  
Central Bank ◽  
Financial Markets ◽  
Rational Expectations ◽  
Phillips Curve ◽  
Time Estimation ◽  
Central Banks ◽  
Inflation Expectations ◽  
Expectation Formation ◽  
Theoretical Approaches

Modern economic theory considers expectations as a key determinant of actual inflation. How agents form those expectations therefore plays a central role in macroeconomic dynamics and policy-making. The understanding of the expectation formation process and the real-time estimation of expectations are especially important for central banks because they need to be sure that longer-term inflation expectations are anchored at the target of inflation, set by the central bank. When expectations are anchored — it is a clear sign that the monetary policy is effective and that markets trust the central bank. However, it is not easy to assess the expected inflation: it is not observable and cannot be directly measured. Central banks can only use the indirect estimates of this variable. For many years the main theoretical framework for modeling and analysis of inflation expectations was Phillips curve with rational expectations which substituted the adaptive expectations. Today many alternative models of expectation formation are available. The article provides a brief overview of the evolution of theoretical approaches to inflation expectation formation and their impact on the monetary policy. Besides, using the experience of the U.S., the article addresses two main ways to gauge inflation expectations empirically — survey-based measures (for different groups of respondents) and measures based on the data from American financial markets. Shortcomings and merits of both approaches are discussed, as well as the importance of highly developed financial markets, which can become the source of more precise information on inflation expectations.

The Stabilizing Effects of Publishing Strategic Central Bank Projections

2022 ◽  
pp. 1-43
Author(s):  
Steffen Ahrens ◽  
Joep Lustenhouwer ◽  
Michele Tettamanzi
Keyword(s):  
Monetary Policy ◽  
Private Sector ◽  
Central Bank ◽  
Driving Forces ◽  
Central Banks ◽  
Primary Objective ◽  
New Keynesian ◽  
Inflation Forecasts ◽  
Historic Development ◽  
The Business Cycle

Abstract Expectations are among the main driving forces for economic dynamics. Therefore, managing expectations has become a primary objective for monetary policy seeking to stabilize the business cycle. In this paper, we study whether central banks can manage private-sector expectations by means of publishing one-period ahead inflation projections in a New Keynesian learning-to-forecast experiment. Subjects in the experiment observe these projections along with the historic development of the economy and subsequently submit their own one-period ahead inflation forecasts. In this context, we find that the central bank can significantly manage private-sector expectations and that this management strongly supports monetary policy in stabilizing the economy. Moreover, published central bank inflation projections drastically reduce the probability of a deflationary spiral after strong negative shocks to the economy.

The Effectiveness of Monetary Policy Anchors: Firm-Level Evidence

2010 ◽  
Vol 64 (4) ◽  
pp. 695-717 ◽  
Author(s):  
J. Lawrence Broz ◽  
Michael Plouffe
Keyword(s):  
Monetary Policy ◽  
Exchange Rate ◽  
Private Sector ◽  
Central Bank ◽  
Inflation Targeting ◽  
Substantial Reduction ◽  
Central Bank Independence ◽  
Inflation Expectations ◽  
Firm Level ◽  
Level Data

AbstractAnalyses of monetary policy posit that exchange-rate pegs, inflation targets, and central bank independence can help anchor private-sector inflation expectations. Yet there are few direct tests of this argument. We offer cross-national, micro-level evidence on the effectiveness of monetary anchors in controlling private-sector inflation concerns. Using firm-level data from eighty-one countries (approximately 10,000 firms), we find evidence that “international” anchors (exchange-rate commitments) correlate significantly with a substantial reduction in private-sector concerns about inflation while “domestic” anchors (inflation targeting and central bank independence) do not. Our conjecture is that private-sector inflation expectations are more responsive to exchange-rate anchors because they are more transparent, more constraining, and more costly than domestic anchoring arrangements.

scholarly journals The limits to robust monetary policy in a small open economy with learning agents

2020 ◽  
Author(s):  
Marine Charlotte André ◽  
Meixing Dai
Keyword(s):  
Monetary Policy ◽  
Central Bank ◽  
Open Economy ◽  
Adaptive Learning ◽  
High Speed ◽  
Rational Expectations ◽  
Small Open Economy ◽  
Learning Gain ◽  
Trade Offs ◽  
The Impact

We study the impact of adaptive learning for the design of a robust monetary policy using a small open-economy New Keynesian model. We find that slightly departing from rational expectations substantially changes the way the central bank deals with model misspecification. Learning induces an intertemporal trade-off for the central bank, i.e., stabilizing inflation (output gap) today or stabilizing it tomorrow. The central bank should optimally anchoring private agents expectations in the short term in exchange of easier future intratemporal trade-offs. Compared to the rational expectations equilibrium, the possibility to conduct robust monetary policy is limited in a small open economy under learning for any exchange rate pass-through level and any degree of trade openness. The misspecification that can be introduced into all equations of the model is lower in a small open economy, and approaches zero at high speed as the learning gain rises.

scholarly journals A SUNSPOT-BASED THEORY OF UNCONVENTIONAL MONETARY POLICY

2020 ◽  
pp. 1-32
Author(s):  
Roger E. A. Farmer ◽  
Pawel Zabczyk
Keyword(s):  
Monetary Policy ◽  
Central Bank ◽  
Financial Markets ◽  
Rational Expectations ◽  
Balance Sheet ◽  
Unconventional Monetary Policy ◽  
Efficient Outcome ◽  
Complete Set ◽  
Pareto Efficient ◽  
Financial Securities

This paper is about the effectiveness of qualitative easing, a form of unconventional monetary policy that changes the risk composition of the central bank balance sheet. We construct a general equilibrium model where agents have rational expectations, and there is a complete set of financial securities, but where some agents are unable to participate in financial markets. We show that a change in the risk composition of the central bank’s balance sheet affects equilibrium asset prices and economic activity. We prove that, in our model, a policy in which the central bank stabilizes non-fundamental fluctuations in the stock market is self-financing and leads to a Pareto efficient outcome.

scholarly journals The Formation of Expectations, Inflation, and the Phillips Curve

2018 ◽  
Vol 56 (4) ◽  
pp. 1447-1491 ◽  
Author(s):  
Olivier Coibion ◽  
Yuriy Gorodnichenko ◽  
Rupal Kamdar
Keyword(s):  
Survey Data ◽  
Rational Expectations ◽  
Phillips Curve ◽  
Rational Expectation ◽  
New Keynesian ◽  
Inflation Expectations ◽  
Full Information ◽  
Macroeconomic Modeling ◽  
Expectations Formation

This paper argues for a careful (re)consideration of the expectations formation process and a more systematic inclusion of real-time expectations through survey data in macroeconomic analyses. While the rational expectations revolution has allowed for great leaps in macroeconomic modeling, the surveyed empirical microevidence appears increasingly at odds with the full-information rational expectation assumption. We explore models of expectation formation that can potentially explain why and how survey data deviate from full-information rational expectations. Using the New Keynesian Phillips curve as an extensive case study, we demonstrate how incorporating survey data on inflation expectations can address a number of otherwise puzzling shortcomings that arise under the assumption of full-information rational expectations. (JEL D04, E24, E27, E31, E37)

scholarly journals Can inflation forecast and monetary policy path be really useful? The case of the Czech Republic

Equilibrium ◽  
2015 ◽  
Vol 10 (3) ◽  
pp. 9 ◽  
Author(s):  
Magdalena Szyszko ◽  
Karolina Tura
Keyword(s):  
Decision Making ◽  
Monetary Policy ◽  
Qualitative Analysis ◽  
Central Bank ◽  
Quantitative Methods ◽  
Inflation Expectations ◽  
The Czech Republic ◽  
Inflation Forecasts ◽  
National Bank ◽  
Parametric Statistics

Producing and revealing inflation forecast is believed to be the best way of implementing a forward-looking monetary policy. The article focuses on inflation forecast targeting (IFT) at the Czech National Bank (CNB) in terms of its efficiency in shaping consumers’ inflation expectations. The goal of the study is to verify the accuracy of the inflation forecasts, and their influence on inflation expectations. The research is divided into four stages. At the first stage, central bank credibility is examined. At the second stage – accuracy of the inflation forecasts. The next step of the research covers a qualitative analysis of IFT implementation. Finally, the existence of the interdependences of inflation forecast, optimal policy paths and inflation expectations is analyzed. Credibility of the central bank, accuracy of the forecast and decision-making procedures focused on the forecast are the premises for the existence of relationship between forecasts and expectations. The research covers the period from July 2002 – till the end of 2013. Its methodology includes qualitative analysis of decision-making of the CNB, quantitative methods (Kia and Patron formula, MAE forecasts errors, quantification of expectations, non-parametric statistics). The results confirm the existence of interdependences between inflation forecasts and expectations of moderate strength. The preconditions of such interdependences are partially fulfilled. The research opens the field for cross-country comparisons and for quantification of IFT implementation.

scholarly journals INFLATION EXPECTATIONS AND MONETARY POLICY DESIGN: EVIDENCE FROM THE LABORATORY

2016 ◽  
Vol 22 (4) ◽  
pp. 1035-1075 ◽  
Author(s):  
Damjan Pfajfar ◽  
Blaž Žakelj
Keyword(s):  
Monetary Policy ◽  
Laboratory Experiments ◽  
Policy Design ◽  
New Keynesian ◽  
Inflation Expectations ◽  
Central Question ◽  
Policy Regime ◽  
Expectations Formation ◽  
Reaction Coefficient ◽  
Inflation Variability

Using laboratory experiments within a New Keynesian framework, we explore the interaction between the formation of inflation expectations and monetary policy design. The central question in this paper is how to design monetary policy when expectations formation is not perfectly rational. Instrumental rules that use actual rather than forecasted inflation produce lower inflation variability and reduce expectational cycles. A forward-looking Taylor rule where a reaction coefficient equals 4 produces lower inflation variability than rules with reaction coefficients of 1.5 and 1.35. Inflation variability produced with the latter two rules is not significantly different. Moreover, the forecasting rules chosen by subjects appear to vary systematically with the policy regime, with destabilizing mechanisms chosen more often when inflation control is weaker.

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