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Equilibrium and government commitment

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  • Marco Bassetto

Abstract

How should a government use the power to commit to ensure a desirable equilibrium outcome? In this paper, I show a misleading aspect of what has become a standard approach to this question, and I propose an alternative. I show that the complete description of an optimal (indeed, of any) policy scheme requires outlining the consequences of paths that are often neglected. The specification of policy along those paths is crucial in determining which schemes implement a unique equilibrium and which ones leave room for multiple equilibria that depend on the expectations of the private sector.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Minneapolis in its series Working Papers with number 624.

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Date of creation: 2002
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Publication status: Published in Published In: Journal of Economic Theory> (Vol. 124, No. 1, September 2005, pp. 79-105)
Handle: RePEc:fip:fedmwp:624

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Keywords: Equilibrium (Economics);

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References

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  1. V. V. Chari & Patrick E. Kehoe, 1990. "Sustainable Plans and Mutual Default," IMF Working Papers 90/22, International Monetary Fund.
  2. Lawrence J. Christiano & Sharon G. Harrison, 1996. "Chaos, sunspots, and automatic stabilizers," Staff Report 214, Federal Reserve Bank of Minneapolis.
  3. Alesina, Alberto F & Prati, Alessandro & Tabellini, Guido, 1989. "Public Confidence and Debt Management: A Model and a Case Study of Italy," CEPR Discussion Papers 351, C.E.P.R. Discussion Papers.
  4. Judd, Kenneth L., 1985. "Redistributive taxation in a simple perfect foresight model," Journal of Public Economics, Elsevier, vol. 28(1), pages 59-83, October.
  5. Diamond, Douglas W & Dybvig, Philip H, 1983. "Bank Runs, Deposit Insurance, and Liquidity," Journal of Political Economy, University of Chicago Press, vol. 91(3), pages 401-19, June.
  6. Carlsson, Hans & van Damme, Eric, 1993. "Global Games and Equilibrium Selection," Econometrica, Econometric Society, vol. 61(5), pages 989-1018, September.
  7. Cole, Harold L & Kehoe, Timothy J, 2000. "Self-Fulfilling Debt Crises," Review of Economic Studies, Wiley Blackwell, vol. 67(1), pages 91-116, January.
  8. Marco Bassetto, 2002. "A Game-Theoretic View of the Fiscal Theory of the Price Level," Econometrica, Econometric Society, vol. 70(6), pages 2167-2195, November.
  9. Cooper,Russell, 1999. "Coordination Games," Cambridge Books, Cambridge University Press, number 9780521570176, April.
  10. Chari, V V & Kehoe, Patrick J, 1990. "Sustainable Plans," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 783-802, August.
  11. Martin J. Osborne & Ariel Rubinstein, 1994. "A Course in Game Theory," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262650401, December.
  12. Svensson, Lars E O, 1998. "Inflation Targeting as a Monetary Policy Rule," CEPR Discussion Papers 1998, C.E.P.R. Discussion Papers.
  13. Sims, Christopher A, 1994. "A Simple Model for Study of the Determination of the Price Level and the Interaction of Monetary and Fiscal Policy," Economic Theory, Springer, vol. 4(3), pages 381-99.
  14. V. V. Chari & Patrick J. Kehoe, 1999. "Optimal Fiscal and Monetary Policy," NBER Working Papers 6891, National Bureau of Economic Research, Inc.
  15. Morris, Stephen & Shin, Hyun Song, 1998. "Unique Equilibrium in a Model of Self-Fulfilling Currency Attacks," American Economic Review, American Economic Association, vol. 88(3), pages 587-97, June.
  16. Calvo, Guillermo A, 1988. "Servicing the Public Debt: The Role of Expectations," American Economic Review, American Economic Association, vol. 78(4), pages 647-61, September.
  17. Stokey, Nancy L., 1991. "Credible public policy," Journal of Economic Dynamics and Control, Elsevier, vol. 15(4), pages 627-656, October.
  18. Lucas, Robert Jr. & Stokey, Nancy L., 1983. "Optimal fiscal and monetary policy in an economy without capital," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 55-93.
  19. Woodford, Michael, 1994. "Monetary Policy and Price Level Determinacy in a Cash-in-Advance Economy," Economic Theory, Springer, vol. 4(3), pages 345-80.
  20. Chamley, Christophe, 1986. "Optimal Taxation of Capital Income in General Equilibrium with Infinite Lives," Econometrica, Econometric Society, vol. 54(3), pages 607-22, May.
  21. Eaton, Jonathan, 1987. "Public Debt Guarantees and Private Capital Flight," World Bank Economic Review, World Bank Group, vol. 1(3), pages 377-95, May.
  22. Cooper,Russell, 1999. "Coordination Games," Cambridge Books, Cambridge University Press, number 9780521578967, April.
  23. Matsuyama, Kiminori, 1991. "Endogenous Price Fluctuations in an Optimizing Model of a Monetary Economy," Econometrica, Econometric Society, vol. 59(6), pages 1617-31, November.
  24. Matsuyama, Kiminori, 1990. "Sunspot equilibria (rational bubbles) in a model of money-in-the-utility-function," Journal of Monetary Economics, Elsevier, vol. 25(1), pages 137-144, January.
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