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Escaping Expectation Traps: How Much Commitment is Required?

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Listed author(s):
  • Christoph Himmels
  • Tatiana Kirsanova

Abstract

In this paper we study the degree of precommitment that is required to eliminate multiplicity of policy equilibria, which arise if the policy maker acts under pure discretion. We apply a framework developed by Schaumburg and Tambalotti (2007) and Debortoli and Nunes (2010) to a standard New Keynesian model with government debt. We demonstrate the existence of expectation traps under limited commitment and identify the minimum degree of commitment which is needed to escape from these traps. We find that the degree of precommitment which is sufficient to generate uniqueness of the Pareto-preferred equilibrium requires the policy maker to stay in office for a period of two to five years. This is consistent with monetary policy arrangements in many developed countries.

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Paper provided by Business School - Economics, University of Glasgow in its series Working Papers with number 2012_18.

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Date of creation: Dec 2012
Handle: RePEc:gla:glaewp:2012_18
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Keywords: Limited Commitment; Commitment; Discretion; Multiple Equilibria; Monetary and Fiscal Policy Interactions;

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Find related papers by JEL classification:
  • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
  • 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
  • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
  • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis

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Cited by:

  1. Xiaoshan Chen & Tatiana Kirsanova & Campbell Leith, 2013. "How Optimal is US Monetary Policy?," Working Papers 2013_08, Business School - Economics, University of Glasgow.
  2. Alfred Duncan & Charles Nolan, 2014. "Disputes, Debt and Equity," Working Papers 2014_20, Business School - Economics, University of Glasgow.
  3. Chen, Xiaoshan & Kirsanova, Tatiana & Leith, Campbell, 2014. "An Empirical Assessment of Optimal Monetary Policy Delegation in the Euro Area," Stirling Economics Discussion Papers 2014-11, University of Stirling, Division of Economics.
  4. Chen, Xiaoshan & Kirsanova, Tatiana & Leith, Campbell, 2014. "An Empirical Assessment of Optimal Monetary Policy Delegation in the Euro Area," 2007 Annual Meeting, July 29-August 1, 2007, Portland, Oregon TN 2015-04, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
  5. Duncan, Alfred & Nolan, Charles, 2014. "Disputes, Debt and Equity," SIRE Discussion Papers 2015-29, Scottish Institute for Research in Economics (SIRE).

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