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Revealing the naked truth behind price determinacy, infinite-horizon rational expectations, and inflation targeting

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  • Eagle, David

Abstract

The economic profession should demand that that price-determinacy literature adhere to normal academic standards and burdens of proof. By presenting two examples where the non-exploding criterion fails miserably, we demonstrate that that criterion does not universally apply. Therefore, the previous price-determinacy literature has the burden to prove that the non-explosive criterion does apply, but has not met and probably cannot meet that burden. This paper looks at an economy with an arbitrarily large, but finite horizon and concludes that inflation targeting leads to price indeterminacy even with a Taylor-like feedback rule for setting the nominal interest rate.

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File URL: http://mpra.ub.uni-muenchen.de/1538/
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File URL: http://mpra.ub.uni-muenchen.de/1885/
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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 1538.

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Date of creation: 18 Jan 2007
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Handle: RePEc:pra:mprapa:1538

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Keywords: non-explosive criterion; price determinacy; inflation targeting; stability criterion; saddle-point criterion; infinite-horizon economies; pegging the interest rate;

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  1. 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, vol. 83(2), pages 241-54, April.
  2. Bennett T. McCallum, . "Role of the minimal state variable criterion in rational expectations models," GSIA Working Papers 1999-13, Carnegie Mellon University, Tepper School of Business.
  3. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-45, November.
  4. Ovidiu L. Calin & Yu Chen & Thomas F. Cosimano & Alex A. Himonas, 2005. "Solving Asset Pricing Models when the Price-Dividend Function Is Analytic," Econometrica, Econometric Society, vol. 73(3), pages 961-982, 05.
  5. Dittmar, Robert D. & Gavin, William T., 2005. "Inflation-targeting, price-path targeting and indeterminacy," Economics Letters, Elsevier, vol. 88(3), pages 336-342, September.
  6. Carlstrom, Charles T. & Fuerst, Timothy S., 2001. "Timing and real indeterminacy in monetary models," Journal of Monetary Economics, Elsevier, vol. 47(2), pages 285-298, April.
  7. Blanchard, Olivier Jean & Kahn, Charles M, 1980. "The Solution of Linear Difference Models under Rational Expectations," Econometrica, Econometric Society, vol. 48(5), pages 1305-11, July.
  8. Bennett T. McCallum, 1982. "Price Level Determinacy with an Interest Rate Policy Rule and Rational Expectations," NBER Working Papers 0559, National Bureau of Economic Research, Inc.
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