Deus ex machina wanted: time inconsistency of time consistency solutions in monetary policy
This paper argues that delegation (optimal institutional design) is not a solution to the dynamic inconsistency problem‚ and can even reinforce it. We show that `optimal` delegation is not consistent with government`s incentives. We solve for delegation schemes that are consistent with these incentives and find that they imply `no delegation`. Introducing a cost of reappointing the central banker just postpones the problem‚ and can only solve it if the government is infinitely averse to changing central bank`s contract. Our results hint to: (i) alternative explanations for good anti-inflationary performance; (ii) strengthening central bank independence and (iii) giving a more prominent role to Central Bank reputation building in fighting inflation.
|Date of creation:||01 Mar 2005|
|Date of revision:|
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