Credibility and Flexibility with Independent Monetary Policy Committees

Independent monetary policy committees are a simple way of attaining relatively low inflation without completely sacrificing an activist role for monetary policy. If central bankers' types are unknown, then for a wide range of parameters an independent committee achieves higher social welfare than either a zero-inflation rule or discretionary policy conducted by an opportunistic central banker. A key reason for the committee's superior performance is that committee members are relatively likely to opt for low inflation and building a reputation when shocks are small. When large shocks hit the economy, the incentive to react outweighs the reputation-building benefit.