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Robustly Optimal Monetary Policy with Near-Rational Expectations

  • Michael Woodford

The paper considers optimal monetary stabilization policy in a forward-looking model, when the central bank recognizes that private sector expectations need not be precisely model-consistent, and wishes to choose a policy that will be as good as possible in the case of any beliefs that are close enough to model-consistency. It is found that commitment continues to be important for optimal policy, that the optimal long-run inflation target is unaffected by the degree of potential distortion of beliefs, and that optimal policy is even more history-dependent than if rational expectations are assumed. (JEL C62, D84, E13, E31, E32, E52)

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File URL: http://www.aeaweb.org/articles.php?doi=10.1257/aer.100.1.274
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File URL: http://www.aeaweb.org/aer/data/mar2010/20060096_app.pdf
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Article provided by American Economic Association in its journal American Economic Review.

Volume (Year): 100 (2010)
Issue (Month): 1 (March)
Pages: 274-303

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Handle: RePEc:aea:aecrev:v:100:y:2010:i:1:p:274-303
Note: DOI: 10.1257/aer.100.1.274
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  1. Svec, Justin, 2012. "Optimal fiscal policy with robust control," Journal of Economic Dynamics and Control, Elsevier, vol. 36(3), pages 349-368.
  2. Orphanides, Athanasios & Williams, John C., 2007. "Robust monetary policy with imperfect knowledge," Journal of Monetary Economics, Elsevier, vol. 54(5), pages 1406-1435, July.
  3. Michael Woodford, 2005. "Robustly Optimal Monetary Policy with Near Rational Expectations," NBER Working Papers 11896, National Bureau of Economic Research, Inc.
  4. 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.
  5. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
  6. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "The science of monetary policy: A new Keynesian perspective," Economics Working Papers 356, Department of Economics and Business, Universitat Pompeu Fabra, revised Apr 1999.
  7. Honkapohja, S. & Evans, G.W., 2000. "Expectations and the Stability Problem for Optimal Monetary Policies," University of Helsinki, Department of Economics 481, Department of Economics.
  8. Walsh, Carl E, 2004. "Robustly Optimal Instrument Rules and Robust Control: An Equivalence Result," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(6), pages 1105-13, December.
  9. Vitor Gaspar & Frank Smets, 2005. "Monetary Policy under Adaptive Learning," Computing in Economics and Finance 2005 80, Society for Computational Economics.
  10. Vitor Gaspar & Frank Smets & David Vestin, 2006. "Optimal Monetary Policy under Adaptive Learning," Computing in Economics and Finance 2006 183, Society for Computational Economics.
  11. M. H. Khalil Timamy, 2005. "Debate," Review of African Political Economy, Taylor & Francis Journals, vol. 32(104-105), pages 383-393, June.
  12. Tomasz Strzalecki, . "Axiomatic Foundations of Multiplier Preferences," Working Paper 8239, Harvard University OpenScholar.
  13. Fabio Maccheroni & Massimo Marinacci & Aldo Rustichini, 2006. "Ambiguity Aversion, Robustness, and the Variational Representation of Preferences," Econometrica, Econometric Society, vol. 74(6), pages 1447-1498, November.
  14. Michael Woodford, 2006. "An Example of Robustly Optimal Monetary Policy with Near-Rational Expectations," Journal of the European Economic Association, MIT Press, vol. 4(2-3), pages 386-395, 04-05.
  15. Hansen, Lars Peter & Sargent, Thomas J., 2005. "Robust estimation and control under commitment," Journal of Economic Theory, Elsevier, vol. 124(2), pages 258-301, October.
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