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Rules versus Discretion

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  • Robert J. Barro

Abstract

Under a discretionary regime the monetary authority makes no commitments about future money and prices. Then, if surprise inflation conveys economic benefits and if people form expectations rationally, it turns out that the equilibrium involves high and variable monetary growth and inflation. Moreover, since the high rate of inflation is anticipated there are no benefits from inflation surprises. The implementation of an enforced rule can lower the mean rate of inflation while delivering the same average amount of inflation surprises, namely zero. Using these results as a background, the paper discusses alternative monetary rules, including quantity versus price rules and a prescription for stablilizing nominal GNP. This discussion touches on the distinction between positive and normative economics, which leads to a pessimistic appraisal of the role for economists' policy advice.

Suggested Citation

  • Robert J. Barro, 1984. "Rules versus Discretion," NBER Working Papers 1473, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:1473
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    References listed on IDEAS

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    1. Calvo, Guillermo A, 1978. "On the Time Consistency of Optimal Policy in a Monetary Economy," Econometrica, Econometric Society, vol. 46(6), pages 1411-1428, November.
    2. Robert J. Barro, 1983. "Inflationary Finance under Discretion and Rules," Canadian Journal of Economics, Canadian Economics Association, vol. 16(1), pages 1-16, February.
    3. Robert L. Hetzel, 1984. "The formulation of monetary policy," Working Paper 84-02, Federal Reserve Bank of Richmond.
    4. McCallum, Bennett T., 1986. "Some issues concerning interest rate pegging, price level determinacy, and the real bills doctrine," Journal of Monetary Economics, Elsevier, vol. 17(1), pages 135-160, January.
    5. Weiss, Laurence, 1976. "The Desirability of Cheating Incentives and Randomness in the Optimal Income Tax," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1343-1352, December.
    6. Lucas, Robert Jr. & Stokey, Nancy L., 1983. "Optimal fiscal and monetary policy in an economy without capital," Journal of Monetary Economics, Elsevier, vol. 12(1), pages 55-93.
    7. Kreps, David M. & Wilson, Robert, 1982. "Reputation and imperfect information," Journal of Economic Theory, Elsevier, vol. 27(2), pages 253-279, August.
    8. Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 83(2), pages 241-254, April.
    9. Herschel I. Grossman, 1984. "Counterfactuals, Forecasts, and Choice-Theoretic Modelling of Policy," NBER Working Papers 1381, National Bureau of Economic Research, Inc.
    10. Backus, David & Driffill, John, 1985. "Inflation and Reputation," American Economic Review, American Economic Association, vol. 75(3), pages 530-538, June.
    11. Taylor, John B., 1985. "What would nominal GNP targetting do to the business cycle?," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 22(1), pages 61-84, January.
    12. 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 473-491, June.
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    Cited by:

    1. Melecky, Martin, 2012. "Formulation of public debt management strategies: An empirical study of possible drivers," Economic Systems, Elsevier, vol. 36(2), pages 218-234.
    2. Crawford, Ron, 2009. "Variations in earnings growth: evidence from earnings transitions in the NZ Linked Income Survey," ISER Working Paper Series 2009-18, Institute for Social and Economic Research.
    3. Juan Ayuso Huertas, 1991. "Los efectos del anuncio de un objetivo de inflaciĆ³n," Investigaciones Economicas, FundaciĆ³n SEPI, vol. 15(3), pages 627-644, September.
    4. John P. Judd, 1995. "Inflation goals and credibility," FRBSF Economic Letter, Federal Reserve Bank of San Francisco, issue may12.

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