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Monetary policy, indeterminacy and learning

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  • Evans, George W.
  • McGough, Bruce

Abstract

The development of tractable forward looking models of monetary policy has lead to an explosion of research on the implications of adopting Taylor-type interest rate rules. Indeterminacies have been found to arise for some specifications of the interest rate rule, raising the possibility of inefficient fluctuations due to the dependence of expectations on extraneous “sunspots ”. Separately, recent work by a number of authors has shown that sunspot equilibria previously thought to be unstable under private agent learning can in some cases be stable when the observed sunspot has a suitable time series structure. In this paper we generalize the “common factor ”technique, used in this analysis, to examine standard monetary models that combine forward looking expectations and predetermined variables. We consider a variety of specifications that incorporate both lagged and expected inflation in the Phillips Curve, and both expected inflation and inertial elements in the policy rule. We find that some policy rules can indeed lead to learnable sunspot solutions and we investigate the conditions under which this phenomenon arises. --

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 29 (2005)
Issue (Month): 11 (November)
Pages: 1809-1840

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Handle: RePEc:eee:dyncon:v:29:y:2005:i:11:p:1809-1840

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  1. Clarida, R. & Gali, J. & Gertler, M., 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Working Papers, C.V. Starr Center for Applied Economics, New York University 99-13, C.V. Starr Center for Applied Economics, New York University.
  2. McCallum, Bennett T., 1999. "Issues in the design of monetary policy rules," Handbook of Macroeconomics, Elsevier, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 23, pages 1483-1530 Elsevier.
  3. Jeff Fuhrer & George Moore, 1993. "Inflation persistence," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 93-17, Board of Governors of the Federal Reserve System (U.S.).
  4. Woodford, M., 1999. "Optimal Monetary Policy Inertia.," Papers, Stockholm - International Economic Studies 666, Stockholm - International Economic Studies.
  5. Bernanke, Ben S & Woodford, Michael, 1997. "Inflation Forecasts and Monetary Policy," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 29(4), pages 653-84, November.
  6. George W. Evans & Seppo Honkapohja, 2001. "Existence of Adaptively Stable Sunspot Equilibria Near an Indeterminate Steady State," CESifo Working Paper Series 478, CESifo Group Munich.
  7. Evans George W. & Honkapohja Seppo, 1994. "On the Local Stability of Sunspot Equilibria under Adaptive Learning Rules," Journal of Economic Theory, Elsevier, vol. 64(1), pages 142-161, October.
  8. Evans, George W. & McGough, Bruce, 2005. "Stable sunspot solutions in models with predetermined variables," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 29(4), pages 601-625, April.
  9. George W. Evans & Seppo Honkapohja & Ramon Marimon, 2001. "Stable Sunspot Equilibria in a Cash-in-Advance Economy," CESifo Working Paper Series 611, CESifo Group Munich.
  10. Woodford, Michael, 1986. "Learning to Believe in Sunspots," Working Papers, C.V. Starr Center for Applied Economics, New York University 86-16, C.V. Starr Center for Applied Economics, New York University.
  11. Evans, George W. & Guesnerie, Roger, 2003. "Coordination On Saddle-Path Solutions: The Eductive Viewpoint Linear Univariate Models," Macroeconomic Dynamics, Cambridge University Press, Cambridge University Press, vol. 7(01), pages 42-62, February.
  12. Evans, George W & Honkapohja, Seppo, 2001. "Expectations and the Stability Problem for Optimal Monetary Policies," CEPR Discussion Papers 2805, C.E.P.R. Discussion Papers.
  13. Paul Romer & George Evans & Seppo Hokapohja, . "Growth Cycles," Home Pages _001, Stanford University.
  14. George W. Evans & Bruce McGough, 2002. "Indeterminacy and the Stability Puzzle in Non-Convex Economies," University of Oregon Economics Department Working Papers, University of Oregon Economics Department 2002-14, University of Oregon Economics Department, revised 27 Aug 2005.
  15. Honkapohja, Seppo & Mitra, Kaushik, 2002. "Performance of monetary policy with internal central bank forecasting," Research Discussion Papers 3/2002, Bank of Finland.
  16. Kaushik Mitra & James Bullard, . "Learning About Monetary Policy Rules," Discussion Papers 00/41, Department of Economics, University of York.
  17. Honkapohja, S. & Mitra, K., 2001. "Are Non-Fundamental Equilibria Learnable in Models of Monetary Policy?," University of Helsinki, Department of Economics, Department of Economics 501, Department of Economics.
  18. Julio J. Rotemberg & Michael Woodford, 1998. "Interest-Rate Rules in an Estimated Sticky Price Model," NBER Working Papers 6618, National Bureau of Economic Research, Inc.
  19. Howitt, Peter & McAfee, R Preston, 1992. "Animal Spirits," American Economic Review, American Economic Association, vol. 82(3), pages 493-507, June.
  20. George W. Evans & Seppo Honkapohja, 2002. "Adaptive Learning and Monetary Policy Design," University of Oregon Economics Department Working Papers, University of Oregon Economics Department 2002-18, University of Oregon Economics Department, revised 04 Mar 2004.
  21. Garratt, Anthony & Hall, Stephen G., 1997. "E-equilibria and adaptive expectations: Output and inflation in the LBS model," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 21(7), pages 1149-1171, June.
  22. Desgranges, Gabriel & Negroni, Giorgio, 2003. "Expectations Coordination On A Sunspot Equilibrium: An Eductive Approach," Macroeconomic Dynamics, Cambridge University Press, Cambridge University Press, vol. 7(01), pages 7-41, February.
  23. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "Monetary policy rules and macroeconomic stability: Evidence and some theory," Economics Working Papers 350, Department of Economics and Business, Universitat Pompeu Fabra, revised May 1999.
  24. Glenn D. Rudebusch, 2001. "Term structure evidence on interest rate smoothing and monetary policy inertia," Working Paper Series 2001-02, Federal Reserve Bank of San Francisco.
  25. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 39(1), pages 195-214, December.
  26. George W. Evans & Seppo Honkapohja, 2002. "Expectational Stability of Stationary Sunspot Equilibria in a Forward-looking Linear Model," University of Oregon Economics Department Working Papers, University of Oregon Economics Department 2001-9, University of Oregon Economics Department, revised 14 Jan 2002.
  27. Roger E.A. Farmer & Jang Ting Guo, 1992. "Real Business Cycles and the Animal Spirits Hypothesis," UCLA Economics Working Papers 680, UCLA Department of Economics.
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