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Committing and reneging: a dynamic model of policy regimes

  • Joseph G. Haubrich
  • Joseph A. Ritter

Actual policy decisions are made in real time and are not irrevocable. These observations are mundane, but most policy modeling has neglected them. We show that when policy is made in an environment of uncertainty, costs of switching policies give the option to wait positive value. This insight has several implications: First, the option to wait itself makes the incumbent regime relatively more attractive (compared to the traditional once-and-for-all analysis). Second, the option to wait means that increased uncertainty makes the incumbent regime more attractive. Third, because the commitment decision takes place in real time, policy choice displays hysteresis.

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Paper provided by Federal Reserve Bank of St. Louis in its series Working Papers with number 1999-020.

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Date of creation: 1999
Date of revision:
Handle: RePEc:fip:fedlwp:1999-020
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  1. Mailath George J. & Mester Loretta J., 1994. "A Positive Analysis of Bank Closure," Journal of Financial Intermediation, Elsevier, vol. 3(3), pages 272-299, June.
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  5. Haubrich, Joseph G & Ritter, Joseph A, 2000. "Dynamic Commitment and Incomplete Policy Rules," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 32(4), pages 766-84, November.
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  9. Lohmann, Susanne, 1992. "Optimal Commitment in Monetary Policy: Credibility versus Flexibility," American Economic Review, American Economic Association, vol. 82(1), pages 273-86, March.
  10. 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.
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  12. Drew Fudenberg & Jean Tirole, 1991. "Game Theory," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262061414, June.
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  14. Gerardo della Paolera & Alan M. Taylor, 2000. "Economic Recovery from the Argentine Great Depression: Institutions, Expectations, and the Change of Macroeconomic Regime," NBER Working Papers 6767, National Bureau of Economic Research, Inc.
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