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Expectations Traps and Coordination Failures with Discretionary Policymaking

  • Richard Dennis
  • Tatiana Kirsanova

Discretionary policymakers cannot manage private-sector expectations and cannot coordinate the actions of future policymakers. As a consequence, expectations traps and coordination failures can occur and multiple equilibria can arise. To utilize the explanatory power of models with multiple equilibria it is first necessary to understand how an economy arrives to a particular equilibrium. In this paper we employ notions of learnability and self-enforceability to motivate and identify equilibria of particular interest. Central among these criteria are whether the equilibrium is learnable by private agents and jointly learnable by private agents and the policymaker. We use two New Keynesian policy models to identify the strategic interactions that give rise to multiple equilibria and to illustrate our methods for identifying equilibria of interest. Importantly, unless the Pareto-preferred equilibrium is learnable by private agents, we find little reason to expect coordination on that equilibrium.

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Paper provided by Business School - Economics, University of Glasgow in its series Working Papers with number 2013_02.

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Date of creation: Jan 2013
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Handle: RePEc:gla:glaewp:2013_02
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