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Escaping Nash inflation

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  • Cho, In-Koo
  • Sargent, Thomas J.

Abstract

Mean dynamics govern convergence to rational expectations equilibria of self-referential systems under least squares learning. We highlight escape dynamics that propel away from a rational expectations equilibrium under fixed-gain recursive learning schemes. These learning schemes discount past observations. In a model with a unique self-confirming equilibrium, we show that the destination of the escape dynamics is an outcome associated with government discovery of too strong a version of the natural rate hypothesis. That destination is not sustainable as a self-confirming equilibrium but is visited recurrently. The escape route dynamics cause recurrent outcomes close to the Ramsey (commitment) inflation rate in a model with an adaptive government. JEL Classification: E3, E52, E58

Suggested Citation

  • Cho, In-Koo & Sargent, Thomas J., 2000. "Escaping Nash inflation," Working Paper Series 23, European Central Bank.
    • Handle: RePEc:ecb:ecbwps:200023
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    References listed on IDEAS

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    More about this item

    Keywords

    adaptation; escape route; experimentation trap; large deviation; mean dynamics; natural rate of unemployment; self-confirming equilibrium;
    All these keywords.

    JEL classification:

    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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