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The Role of Expectations in the Choice of Monetary Policy

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  • John B. Taylor

Abstract

This paper reviews and contrasts different views about the role of expectations in policy research and practice. Recently, two widely different views seem to have dominated the analysis of policy questions.One view, which is referred to as the "new classical macroeconomic"view, is that expectations overwhelm the influence of monetary policy.The other view, which is referred to as the "Keynesian" macroeconomic view, is that expectations are unimportant because people do not adjust to expectations of policy change. The paper argues that both these views are misleading. It advances a new view of the role of expectations that is still emerging from current macroeconomic reearch. The new view recognizes the importance of contractual arrangements which prevent a modern economy from adjusting instantaneously to policy changes, even if they are expected. But it also emphasizes that forward-looking expectations influence how these arrangements are set up and how they evolve over time. Recent criticisms of this new view are reviewed, and examples are given to illustrate how quantitative methods that incorporate this view can be used in practice.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 1044.

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Date of creation: Dec 1982
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Publication status: published as Taylor, John B. "The Role of Expectations in the Choice of Monetary Policy." Monetary Policy Issues in the 1980s, Economic Symposium Conference Proceedings August 9-10, 1982, pp. 47-76. Kansas City: Federal Reserve Bank of Kansas City, (1982).
Handle: RePEc:nbr:nberwo:1044

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  19. Willem H. Buiter & Ian Jewitt, 1980. "Staggered Wage Setting without Money Illusion: Variations on a Theme of Taylor," NBER Working Papers 0545, National Bureau of Economic Research, Inc.
  20. Thomas J. Sargent, 1981. "Stopping moderate inflations: the methods of Poincaré and Thatcher," Working Papers 1, Federal Reserve Bank of Minneapolis.
  21. Hicks, John R, 1969. "Automatists, Hawtreyans, and Keynesians," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 1(3), pages 307-17, August.
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  24. Okun, Arthur M, 1980. "Rational-Expectations-with-Misperceptions as a Theory of the Business Cycle," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 12(4), pages 817-25, November.
  25. Alan S. Blinder, 1980. "Monetary Accommodation of Supply Shocks under Rational Expectations," NBER Working Papers 0464, National Bureau of Economic Research, Inc.
  26. Walsh, Carl E, 1984. "Interest Rate Volatility and Monetary Policy," Journal of Money, Credit and Banking, Blackwell Publishing, Blackwell Publishing, vol. 16(2), pages 133-50, May.
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  29. Lucas, Robert Jr., 1972. "Expectations and the neutrality of money," Journal of Economic Theory, Elsevier, vol. 4(2), pages 103-124, April.
  30. Taylor, John B, 1981. "Stabilization, Accommodation, and Monetary Rules," American Economic Review, American Economic Association, vol. 71(2), pages 145-49, May.
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  32. Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 83(2), pages 241-54, April.
  33. Phelps, Edmund S & Taylor, John B, 1977. "Stabilizing Powers of Monetary Policy under Rational Expectations," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 85(1), pages 163-90, February.
  34. Dornbusch, Rudiger, 1982. "PPP Exchange-Rate Rules and Macroeconomic Stability," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 90(1), pages 158-65, February.
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