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Measuring the time-inconsistency of US monetary policy

  • Paolo Surico

This paper offers an alternative explanation for the great inflation of the 1970s by measuring a novel source of monetary policy time inconsistency. In the presence of asymmetric preferences, the monetary authorities generate a systematic inflation bias through the private-sector expectations of a larger policy response in recessions than in booms. The estimated Fed's implicit target for inflation has declined from the pre- to the post-Volcker regime. The average inflation bias was about 1% before 1979, but this has disappeared over the last two decades, because the preferences on output stabilization were large and asymmetric only in the former period. Copyright (c) The London School of Economics and Political Science 2007.

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Paper provided by Money Macro and Finance Research Group in its series Money Macro and Finance (MMF) Research Group Conference 2003 with number 96.

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Date of creation: 27 Sep 2004
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Handle: RePEc:mmf:mmfc03:96
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  1. A. Robert Nobay & David A. Peel, 1998. "Optimal Monetary Policy in a Model of Asymmetric Central Bank Preferences," FMG Discussion Papers dp306, Financial Markets Group.
  2. Ben S. Bernanke & Ilian Mihov, 1995. "Measuring monetary policy," Working Papers in Applied Economic Theory 95-09, Federal Reserve Bank of San Francisco.
  3. Paolo Surico, 2004. "Measuring the time-inconsistency of US monetary policy," Money Macro and Finance (MMF) Research Group Conference 2003 96, Money Macro and Finance Research Group.
  4. Svensson, Lars E O, 1997. "Optimal Inflation Targets, "Conservative" Central Banks, and Linear Inflation Contracts," American Economic Review, American Economic Association, vol. 87(1), pages 98-114, March.
  5. Ireland, Peter N., 1999. "Does the time-consistency problem explain the behavior of inflation in the United States?," Journal of Monetary Economics, Elsevier, vol. 44(2), pages 279-291, October.
  6. RUGE-MURCIA, Francisco J., 2002. "Does the Barro-Gordon Model Explain the Behavior of US Inflation? a Reexamination of the Empirical Evidence," Cahiers de recherche 2002-07, Universite de Montreal, Departement de sciences economiques.
  7. Paolo Surico, 2004. "Inflation Targeting and Nonlinear Policy Rules: the Case of Asymmetric Preferences," Econometric Society 2004 Latin American Meetings 8, Econometric Society.
  8. Alex Cukierman, 2002. "Are contemporary central banks transparent about economic models and objectives and what difference does it make?," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 15-36.
  9. A. Robert Nobay & David A. Peel, 2003. "Optimal Discretionary Monetary Policy in a Model of Asymmetric Central Bank Preferences," Economic Journal, Royal Economic Society, vol. 113(489), pages 657-665, 07.
  10. Petra M. Geraats, 2000. "Inflation and Its Variation: An Alternative Explanation," Macroeconomics 0004001, EconWPA.
  11. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, vol. 50(4), pages 1029-54, July.
  12. Paolo Surico, 2002. "Uncovering Policy Makers' Loss Function," Macroeconomics 0210003, EconWPA.
  13. Bennett T. McCallum, 1996. "Crucial Issues Concerning Central Bank Independence," NBER Working Papers 5597, National Bureau of Economic Research, Inc.
  14. Robert J. Barro & David B. Gordon, 1981. "A Positive Theory of Monetary Policy in a Natural-Rate Model," NBER Working Papers 0807, National Bureau of Economic Research, Inc.
  15. Douglas Staiger & James H. Stock, 1994. "Instrumental Variables Regression with Weak Instruments," NBER Technical Working Papers 0151, National Bureau of Economic Research, Inc.
  16. Hooker, Mark A., 1996. "What happened to the oil price-macroeconomy relationship?," Journal of Monetary Economics, Elsevier, vol. 38(2), pages 195-213, October.
  17. Persson, Torsten & Tabellini, Guido, 1999. "Political economics and macroeconomic policy," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 22, pages 1397-1482 Elsevier.
  18. Alex Cukierman & Stefan Gerlach, 2003. "The inflation bias revisited: theory and some international evidence," Manchester School, University of Manchester, vol. 71(5), pages 541-565, 09.
  19. Alan S. Blinder, 1999. "Central Banking in Theory and Practice," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262522608, June.
  20. 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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