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Sunspots and Monetary Policy

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Author Info
Jagjit Chadha ()
Luisa Corrado ()

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Abstract

A monetary economy subject to expectational sunspots is prone to instability, in the sense of multiple rational expectations equilibria. We show how to modify the policy rule to guarantee stability in the presence of expectational sunspots. The policy-maker must co-ordinate inflation dynamics by targeting each of lagged, current and expected inflation. We show that this solution maps directly into the timeless perspective by Woodford. Finally, we trace the responses in an artificial sunspot economy to the adoption of our rule and illustrate the extent to which macroeconomic persistence is reduced.

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Paper provided by Economics and Finance Section, School of Social Sciences, Brunel University in its series Economics and Finance Discussion Papers with number 06-06.

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Length: 29 pages
Date of creation: Mar 2006
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Handle: RePEc:bru:bruedp:06-06

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Postal: Brunel University, Uxbridge, Middlesex UB8 3PH, UK

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