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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. John C Williams & Athanasios Orphanides, 2005. "Robust Monetary Policy with Imperfect Knowledge," Computing in Economics and Finance 2005 400, Society for Computational Economics.
  2. 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.
  3. Clarida, R. & Gali, J. & Gertler, M., 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Working Papers 99-13, C.V. Starr Center for Applied Economics, New York University.
  4. Svec, Justin, 2012. "Optimal fiscal policy with robust control," Journal of Economic Dynamics and Control, Elsevier, vol. 36(3), pages 349-368.
  5. Athanasios Orphanides & John C. Williams, 2003. "Imperfect Knowledge, Inflation Expectations, and Monetary Policy," NBER Working Papers 9884, National Bureau of Economic Research, Inc.
  6. Strzalecki, Tomasz, 2011. "Axiomatic Foundations of Multiplier Preferences," Scholarly Articles 14397610, Harvard University Department of Economics.
  7. 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.
  8. Anastasios G. Karantounias, 2009. "Ramsey Taxation and fear of misspecification," 2009 Meeting Papers 822, Society for Economic Dynamics.
  9. Evans, George W. & Honkapohja, Seppo, 2001. "Expectations and the Stability Problem for Optimal Monetary Policies," CEPR Discussion Papers 2805, C.E.P.R. Discussion Papers.
  10. Fabio Maccheroni & Massimo Marinacci & Aldo Rustichini, 2004. "Ambiguity Aversion, Robustness, and the Variational Representation of Preferences," Carlo Alberto Notebooks 12, Collegio Carlo Alberto, revised 2006.
  11. Michael Woodford, 2010. "Robustly Optimal Monetary Policy with Near-Rational Expectations," American Economic Review, American Economic Association, vol. 100(1), pages 274-303, March.
  12. Vitor Gaspar & Frank Smets, 2005. "Monetary Policy under Adaptive Learning," Computing in Economics and Finance 2005 80, Society for Computational Economics.
  13. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
  14. M. H. Khalil Timamy, 2005. "Debate," Review of African Political Economy, Taylor & Francis Journals, vol. 32(104-105), pages 383-393, June.
  15. 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.
  16. Vitor Gaspar & Frank Smets & David Vestin, 2006. "Optimal Monetary Policy under Adaptive Learning," Computing in Economics and Finance 2006 183, Society for Computational Economics.
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