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Too Little, Too Late? Monetary Policymaking Inertia and Psychology: A Behavioral Model

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  • Federico Favaretto
  • Donato Masciandaro

Abstract

Can the inertia in the monetary policymaking be attributed to psychological drivers? Our model shows two results. First, our baseline model with individual loss aversion explains inertia in a monetary policy committee (MPC) where holds a de jure majority rule. Second, our second model shows that introducing a specication of loss aversion for all members in a MPC leads to inertial decisions when status-quo ination is below the ination target. Conversely when status-quo ination is above the target rate, inertial policy does not occur until the level of ination discounts the loss aversion mechanism. In the framework of a hawk-dove dimension we conclude that loss aversion favors inertial monetary policy.

Suggested Citation

  • Federico Favaretto & Donato Masciandaro, 2016. "Too Little, Too Late? Monetary Policymaking Inertia and Psychology: A Behavioral Model," BAFFI CAREFIN Working Papers 1617, BAFFI CAREFIN, Centre for Applied Research on International Markets Banking Finance and Regulation, Universita' Bocconi, Milano, Italy.
  • Handle: RePEc:baf:cbafwp:cbafwp1617
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    References listed on IDEAS

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    5. Santoro, Emiliano & Petrella, Ivan & Pfajfar, Damjan & Gaffeo, Edoardo, 2014. "Loss aversion and the asymmetric transmission of monetary policy," Journal of Monetary Economics, Elsevier, vol. 68(C), pages 19-36.
    6. Anne Sibert, 2006. "Central Banking by Committee," International Finance, Wiley Blackwell, vol. 9(2), pages 145-168, August.
    7. Eijffinger, Sylvester & Mahieu, Ronald & Raes, Louis, 2018. "Inferring hawks and doves from voting records," European Journal of Political Economy, Elsevier, vol. 51(C), pages 107-120.
    8. Eijffinger, Sylvester C W & Mahieu, Ronald J & Raes, Louis, 2015. "Hawks and Doves at the FOMC," CEPR Discussion Papers 10442, C.E.P.R. Discussion Papers.
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    12. Athanasios Orphanides, 2015. "Fear of Liftoff: Uncertainty, Rules, and Discretion in Monetary Policy Normalization," Review, Federal Reserve Bank of St. Louis.
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    19. Alessandro Riboni, 2010. "Committees As Substitutes For Commitment," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 51(1), pages 213-236, February.
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    More about this item

    Keywords

    Monetary Policy; Behavioral Economics;

    JEL classification:

    • D7 - Microeconomics - - Analysis of Collective Decision-Making
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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