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Time-Consistently Undominated Policies

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  • Brendon, C.
  • Ellison, M.

Abstract

This paper proposes and characterises a new normative solution concept for Kydland and Prescott problems, allowing for a commitment device. A policy choice is dominated if either (a) an alternative exists that is superior to it in a time-consistent subdomain of the constraint set, or (b) an alternative exists that Paretodominates it over time. Policies may be time-consistently undominated where time-consistent optimality is not possible. We derive necessary and sufficient conditions for this to be true, and show that these are equivalent to a straightforward but significant change to the first-order conditions that apply under Ramsey policy. Time-consistently undominated policies are an order of magnitude simpler than Ramsey choice, whilst retaining normative appeal. This is illustrated across a range of examples.

Suggested Citation

  • Brendon, C. & Ellison, M., 2018. "Time-Consistently Undominated Policies," Cambridge Working Papers in Economics 1809, Faculty of Economics, University of Cambridge.
  • Handle: RePEc:cam:camdae:1809
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    Keywords

    Time Consistency; Undominated Policy; Ramsey Policy;

    JEL classification:

    • D02 - Microeconomics - - General - - - Institutions: Design, Formation, Operations, and Impact
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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