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Heterogeneous Expectations, Adaptive Learning,and Forward-Looking Monetary Policy

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Abstract

In this paper, I examine the role of monetary policy in a heterogeneous expectations environment. I use a New Keynesian business cycle model as the experiment laboratory. I assume that the central bank and private economic agents (households and producing rms) have imperfect and heterogeneous information about the economy, and as a consequence, they disagree in their views on its future development. I facilitate the heterogeneous environment by assuming that all agents learn adaptively. Measured by the central bank's expected loss, the two major findings are: (i) policy that is efcient under homogeneous expectations is not effccient under heterogeneous expectations; (ii) in the short and medium run, policy that is excessively responsive to ination increases ination and output volatility, but in the long run such policy lowers economic volatility.

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File URL: http://www.rbnz.govt.nz/research_and_publications/discussion_papers/2008/dp08_07.pdf
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Paper provided by Reserve Bank of New Zealand in its series Reserve Bank of New Zealand Discussion Paper Series with number DP2008/07.

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Length: 24 p.
Date of creation: May 2008
Date of revision:
Handle: RePEc:nzb:nzbdps:2008/07

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  1. N. Gregory Mankiw & Ricardo Reis & Justin Wolfers, 2003. "Disagreement about Inflation Expectations," Harvard Institute of Economic Research Working Papers, Harvard - Institute of Economic Research 2011, Harvard - Institute of Economic Research.
  2. Richard Clarida & Jordi Gali & Mark Gertler, 1998. "Monetary Policy Rules and Macroeconomic Stability: Evidence and Some Theory," NBER Working Papers 6442, National Bureau of Economic Research, Inc.
  3. Honkapohja, Seppo & Mitra, Kaushik, 2002. "Performance of monetary policy with internal central bank forecasting," Research Discussion Papers, Bank of Finland 3/2002, Bank of Finland.
  4. George W. Evans & Seppo Honkapohja, 2003. "Adaptive learning and monetary policy design," Proceedings, Federal Reserve Bank of Cleveland, Federal Reserve Bank of Cleveland, pages 1045-1084.
  5. Athanasios Orphanides & John C. Williams, 2002. "Imperfect knowledge, inflation expectations, and monetary policy," Working Paper Series, Federal Reserve Bank of San Francisco 2002-04, Federal Reserve Bank of San Francisco.
  6. Oscar Landerretche & Vittorio Corbo & Klaus Schmidt-Hebbel, 2001. "Does Inflation Targeting Make a Difference," Working Papers Central Bank of Chile, Central Bank of Chile 106, Central Bank of Chile.
  7. Honkapohja, S. & Evans, G.W., 2000. "Expectations and the Stability Problem for Optimal Monetary Policies," University of Helsinki, Department of Economics, Department of Economics 481, Department of Economics.
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Cited by:
  1. Isabelle SALLE (GREThA, CNRS, UMR 5113) & Murat YILDIZOGLU (GREThA, CNRS, UMR 5113) & Marc-Alexandre SENEGAS (GREThA, CNRS, UMR 5113), 2012. "Inflation targeting in a learning economy: An ABM perspective," Cahiers du GREThA, Groupe de Recherche en Economie Théorique et Appliquée 2012-15, Groupe de Recherche en Economie Théorique et Appliquée.

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