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Optimal Monetary Policy with Partially Rational Agents

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Author Info
Orlando Gomes () (Instituto Politécnico de Lisboa - Escola Superior de Comunicação Social and UNIDE-ERC)
Vivaldo M. Mendes () (ISCTE - Department of Economics and UNIDE-ERC)
Diana A. Mendes () (ISCTE - Department of Quantitative Methods and UNIDE-StatMath)

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Abstract

We explore the dynamic behavior of a New Keynesian monetary policy problem with expectations formed, partially, under adaptive learning. We consider two alternative cases: on the first setting, the private economy has the ability to predict rationally real economic conditions (the output gap) but it needs to learn about the future values of the nominal variable (the inflation rate); on the second setup, private agents are fully aware of future inflation rates, however they lack the ability to predict instantly the correct values of the output gap (learning is attached to this variable). In both cases, we find a simple condition indicating the required learning quality that is needed to guarantee local stability. To achieve convergence to the steady-state, the economy does not need to attain full learning efficiency; it just has to secure a minimum learning quality in order to attain the desired long run result.

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File URL: http://erc.unide.iscte.pt/wpi/ERCwp2208.pdf
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File Function: First version, 2008
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Publisher Info
Paper provided by ISCTE, UNIDE, Economics Research Centre in its series Working Papers with number ercwp2208.

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Length: 13 pages
Date of creation: Jul 2008
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Handle: RePEc:isc:wpaper:ercwp2208

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  1. Clarida, Richard & Galí, Jordi & Gertler, Mark, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," CEPR Discussion Papers 2139, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  2. Albert Marcet & Klaus Adam & Juan Pablo Nicolini, 2008. "Stock Market Volatility and Learning," UFAE and IAE Working Papers 732.08, Unitat de Fonaments de l'Anàlisi Econòmica (UAB) and Institut d'Anàlisi Econòmica (CSIC). [Downloadable!]
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  3. Marcet, Albert & Sargent, Thomas J., 1989. "Convergence of least squares learning mechanisms in self-referential linear stochastic models," Journal of Economic Theory, Elsevier, vol. 48(2), pages 337-368, August. [Downloadable!] (restricted)
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