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Imperfect Credibility and Robust Monetary Policy

  • Richard Dennis


This paper studies the behavior of a central bank that seeks to conduct policy optimally while having imperfect credibility and harboring doubts about its model. Taking the Smets-Wouters model as the central bank.s approximating model, the paper's main findings are as follows. First, a central bank's credibility can have large consequences for how policy responds to shocks. Second, central banks that have low credibility can benefit from a desire for robustness because this desire motivates the central bank to follow through on policy announcements that would otherwise not be time-consistent. Third, even relatively small departures from perfect credibility can produce important declines in policy performance. Finally, as a technical contribution, the paper develops a numerical procedure to solve the decision-problem facing an imperfectly credible policymaker that seeks robustness

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Paper provided by Australian National University, College of Business and Economics, School of Economics in its series ANU Working Papers in Economics and Econometrics with number 2012-582.

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Length: 34 Pages
Date of creation: Aug 2012
Date of revision:
Handle: RePEc:acb:cbeeco:2012-582
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  1. Miles S. Kimball, 1995. "The Quantitative Analytics of the Basic Neomonetarist Model," NBER Working Papers 5046, National Bureau of Economic Research, Inc.
  2. Hansen, Lars Peter & Sargent, Thomas J. & Wang, Neng E., 2002. "Robust Permanent Income And Pricing With Filtering," Macroeconomic Dynamics, Cambridge University Press, vol. 6(01), pages 40-84, February.
  3. Dennis, Richard & Söderström, Ulf, 2002. "How Important Is Precommitment for Monetary Policy?," Working Paper Series 139, Sveriges Riksbank (Central Bank of Sweden).
  4. Kenneth Kasa, 1999. "Model uncertainty, robust policies, and the value of commitment," Working Paper Series 99-14, Federal Reserve Bank of San Francisco.
  5. Dennis, Richard & Leitemo, Kai & Söderström, Ulf, 2009. "Methods for robust control," Journal of Economic Dynamics and Control, Elsevier, vol. 33(8), pages 1604-1616, August.
  6. Richard Dennis, 2005. "Robust control with commitment: a modification to Hansen-Sargent," Working Paper Series 2005-20, Federal Reserve Bank of San Francisco.
  7. Andrew Levin & John C. Williams, 2000. "The Performance of Forecast-Based Monetary Policy Rules under Model Uncertainty," Econometric Society World Congress 2000 Contributed Papers 1781, Econometric Society.
  8. Lars Peter Hansen & Thomas J. Sargent, 2012. "Three Types of Ambiguity," Working Papers 2012-006, Becker Friedman Institute for Research In Economics.
  9. Currie,David & Levine,Paul, 2009. "Rules, Reputation and Macroeconomic Policy Coordination," Cambridge Books, Cambridge University Press, number 9780521104609.
  10. Itzhak Gilboa & David Schmeidler, 1989. "Maxmin Expected Utility with Non-Unique Prior," Post-Print hal-00753237, HAL.
  11. Martin Bodenstein & James Hebden & Ricardo Nunes, 2010. "Imperfect credibility and the zero lower bound on the nominal interest rate," International Finance Discussion Papers 1001, Board of Governors of the Federal Reserve System (U.S.).
  12. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
  13. Ernst Schaumburg & Andrea Tambalotti, 2003. "An Investigation of the Gains from Commitment in Monetary Policy," Macroeconomics 0302004, EconWPA.
  14. Giordani, Paolo & Soderlind, Paul, 2004. "Solution of macromodels with Hansen-Sargent robust policies: some extensions," Journal of Economic Dynamics and Control, Elsevier, vol. 28(12), pages 2367-2397, December.
  15. Dennis, Richard, 2010. "How robustness can lower the cost of discretion," Journal of Monetary Economics, Elsevier, vol. 57(6), pages 653-667, September.
  16. Gilles Oudiz & Jeffrey Sachs, 1985. "International Policy Coordination in Dynamic Macroeconomic Models," NBER Chapters, in: International Economic Policy Coordination, pages 274-330 National Bureau of Economic Research, Inc.
  17. Davide Debortoli & Ricardo Nunes, 2007. "Loose commitment," International Finance Discussion Papers 916, Board of Governors of the Federal Reserve System (U.S.).
  18. William Roberds, 1986. "Models of policy under stochastic replanning," Staff Report 104, Federal Reserve Bank of Minneapolis.
  19. Epstein, Larry G & Zin, Stanley E, 1989. "Substitution, Risk Aversion, and the Temporal Behavior of Consumption and Asset Returns: A Theoretical Framework," Econometrica, Econometric Society, vol. 57(4), pages 937-69, July.
  20. Thomas J. Sargent & Riccardo Colacito & Lars P. Hansen & Timothy Cogley, 2008. "Robustness and US Monetary," 2008 Meeting Papers 228, Society for Economic Dynamics.
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