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Discretion Rather than Rules: Equilibrium Uniqueness and Forward Guidance with Inconsistent Optimal Plans

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  • Jeffrey R. Campbell
  • Jacob P. Weber

Abstract

New Keynesian economies with active interest rate rules gain equilibrium determinacy from the central bank?s incredible off-equilibrium-path promises (Cochrane, 2011). We suppose instead that the central bank sets interest rate paths and occasionally has the discretion to change them. Private agents taking future central bank actions and their own best responses to them as given reduces the scope for self-fulfilling prophecies. With empirically-reasonable frequencies of central-bank reoptimization, the monetary-policy game has a unique Markov-perfect equilibrium wherein forward guidance influences current outcomes without displaying a forward-guidance puzzle.

Suggested Citation

  • Jeffrey R. Campbell & Jacob P. Weber, 2018. "Discretion Rather than Rules: Equilibrium Uniqueness and Forward Guidance with Inconsistent Optimal Plans," Working Paper Series WP-2018-14, Federal Reserve Bank of Chicago.
  • Handle: RePEc:fip:fedhwp:wp-2018-14
    DOI: 10.21033/wp-2018-14
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    Cited by:

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    2. Jean Barthélemy & Eric Mengus, 2017. "Credibility and Monetary Policy," Working Papers hal-03457527, HAL.
    3. Campbell, Jeffrey R. & Ferroni, Filippo & Fisher, Jonas D.M. & Melosi, Leonardo, 2019. "The limits of forward guidance," Journal of Monetary Economics, Elsevier, vol. 108(C), pages 118-134.
    4. Jeffrey R. Campbell & Jacob P. Weber, 2018. "Open Mouth Operations," Working Paper Series WP-2018-3, Federal Reserve Bank of Chicago.
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    More about this item

    Keywords

    Keynesian economics; Markov processes; Money policy; Open Market Operations;
    All these keywords.

    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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