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Abstract

This paper studies the formulation of monetary policy in a changing environment when knowledge regarding some aspects of the structure of the economy is imperfect and an adaptive learning technology is available to the policymaker and economic agents. As a benchmark, we develop a simple model of the economy and identify efficient monetary policy rules under the assumptions that knowledge of the economy is perfect and expectations are formed rationally. We then relax the assumption of rational expectations and examine the design of policy when agents and/or the policymaker must rely on adaptive learning to form expectations. We show that policies that are efficient under rational expectations are no longer efficient under imperfect knowledge, and, conversely, that efficient policies under imperfect knowledge would appear inefficient to the outside observer who assumed perfect knowledge. Using these results, we discuss the role of imperfect knowledge on the evolution of monetary policy in the United States over the past twenty years.

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Bibliographic Info

Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2001 with number 254.

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Date of creation: 01 Apr 2001
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Handle: RePEc:sce:scecf1:254

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Related research

Keywords: monetary policy; learning; rational expectations; optimal control; nflation targeting; policy rules; expectation formation;

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• E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

References

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1. Mccallum, Bennet T., 1988. "Robustness properties of a rule for monetary policy," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 29(1), pages 173-203, January.
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   • Athanasios Orphanides & John C. Williams, 2003. "Inflation scares and forecast-based monetary policy," Working Papers in Applied Economic Theory 2003-11, Federal Reserve Bank of San Francisco.
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   • Athanasios Orphanides & John Williams, 2004. "Imperfect Knowledge, Inflation Expectations, and Monetary Policy," NBER Chapters, in: The Inflation-Targeting Debate, pages 201-246 National Bureau of Economic Research, Inc.
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4. Athanasios Orphanides & John C. Williams, 2006. "Inflation targeting under imperfect knowledge," Finance and Economics Discussion Series 2006-20, Board of Governors of the Federal Reserve System (U.S.).
   
   • Athanasios Orphanides & John C. Williams, 2007. "Inflation Targeting under Imperfect Knowledge," Central Banking, Analysis, and Economic Policies Book Series, in: Frederic S. Miskin & Klaus Schmidt-Hebbel & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Se (ed.), Monetary Policy under Inflation Targeting, edition 1, volume 11, chapter 4, pages 077-123 Central Bank of Chile.
   • Athanasios Orphanides & John C. Williams, 2007. "Inflation targeting under imperfect knowledge," Economic Review, Federal Reserve Bank of San Francisco, pages 1-23.
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   • Athanasios Orphanides & John C. Williams, 2006. "Inflation Targeting Under Imperfect Knowledge," Working Papers Central Bank of Chile 398, Central Bank of Chile.
   • Orphanides, Athanasios & Williams, John C, 2006. "Inflation Targeting under Imperfect Knowledge," CEPR Discussion Papers 5664, C.E.P.R. Discussion Papers.
   • Athanasios Orphanides & John C. Williams, 2006. "Inflation Targeting under Imperfect Knowledge," Computing in Economics and Finance 2006 38, Society for Computational Economics.
5. Athanasios Orphanides & John C. Williams, 2002. "Robust monetary policy rules with unknown natural rates," Working Papers in Applied Economic Theory 2003-01, Federal Reserve Bank of San Francisco.
   
   • Athanasios Orphanides & John C. Williams, 2002. "Robust Monetary Policy Rules with Unknown Natural Rates," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 33(2), pages 63-146.
   • Athanasios Orphanides & John C. Williams, 2003. "Robust monetary policy rules with unknown natural rates," Finance and Economics Discussion Series 2003-11, Board of Governors of the Federal Reserve System (U.S.).
6. Orphanides, Athanasios & Williams, John C., 2005. "The decline of activist stabilization policy: Natural rate misperceptions, learning, and expectations," Journal of Economic Dynamics and Control, Elsevier, vol. 29(11), pages 1927-1950, November.
   
   • A. Orphanides & J. Williams, 2003. "The decline of activist stabilization policy: natural rate misperceptions, learning, and expectations," Proceedings, Board of Governors of the Federal Reserve System (U.S.).
   • Athanasios Orphanides & John C. Williams, 2004. "The Decline of Activist Stabilization Policy: Natural Rate Misperceptions, Learning, and Expectations," CFS Working Paper Series 2004/24, Center for Financial Studies.
   • John C. Williams & Athanasios Orphanides, 2004. "The Decline of Activist Stabilization Policy: Natural Rate Misperceptions, Learning, and Expectations," Computing in Economics and Finance 2004 144, Society for Computational Economics.
   • Athanasios Orphanides & John C. Williams, 2004. "The decline of activist stabilization policy: natural rate misperceptions, learning, and expectations," International Finance Discussion Papers 804, Board of Governors of the Federal Reserve System (U.S.).
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   • Athanasios Orphanides & John C. Williams, 2004. "The decline of activist stabilization policy: Natural rate misperceptions, learning and expectations," Working Paper Series 337, European Central Bank.
7. John C. Williams, 2004. "Robust estimation and monetary policy with unobserved structural change," Working Papers in Applied Economic Theory 2004-11, Federal Reserve Bank of San Francisco.
   
   • John C. Williams, 2006. "Robust estimation and monetary policy with unobserved structural change," Economic Review, Federal Reserve Bank of San Francisco, pages 1-16.
   • John C. Williams, 2005. "Robust estimation and monetary policy with unobserved structural change," Proceedings, Board of Governors of the Federal Reserve System (U.S.), pages 53-81.

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