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Managing Expectations: Instruments vs. Targets

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  • George-Marios Angeletos
  • Karthik A. Sastry

Abstract

Should a policymaker offer forward guidance in terms of a path for an instrument such as interest rates or a target for an outcome such as unemployment? We study how the optimal approach depends on bounded rationality. People make mistakes in reasoning about the behavior of others and the equilibrium mapping between policy and outcomes. The policymaker wishes to minimize the effects of such mistakes on implementability and welfare. This goal is achieved by target-based forward guidance if and only if GE feedback is strong enough, as when faced with a prolonged liquidity trap, a steep Keynesian cross, or a large financial accelerator.

Suggested Citation

  • George-Marios Angeletos & Karthik A. Sastry, 2018. "Managing Expectations: Instruments vs. Targets," NBER Working Papers 25404, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:25404
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    References listed on IDEAS

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    1. Morris, Stephen & Shin, Hyun Song, 1998. "Unique Equilibrium in a Model of Self-Fulfilling Currency Attacks," American Economic Review, American Economic Association, vol. 88(3), pages 587-597, June.
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    Cited by:

    1. Bassetto, Marco, 2019. "Forward guidance: Communication, commitment, or both?," Journal of Monetary Economics, Elsevier, vol. 108(C), pages 69-86.

    More about this item

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • E03 - Macroeconomics and Monetary Economics - - General - - - Behavioral Macroeconomics
    • 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

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