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Incentives and the Limits to Deflationary Policy

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  • Andolfatto, David

Abstract

I study a version of the Lagos-Wright (2005) model for which the Friedman rule is always a desirable policy, but where implementation may be constrained by the need to respect incentive-feasibility. In the environment I consider, incentives are distorted owing to private information and limited commitment. I demonstrate that a monetary economy can overcome the former friction, but not necessarily the latter. When this is so, there is an incentive-induced lower bound to the rate of deflation away from the Friedman rule. There are also circumstances in which the best incentive-feasible monetary policy may entail a strictly positive rate of inflation. This will be the case, for example, if agents are sufficiently impatient or if there are rapidly diminishing returns to production.

Suggested Citation

  • Andolfatto, David, 2007. "Incentives and the Limits to Deflationary Policy," MPRA Paper 4681, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:4681
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    References listed on IDEAS

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    3. Guillaume Rocheteau & Randall Wright, 2005. "Money in Search Equilibrium, in Competitive Equilibrium, and in Competitive Search Equilibrium," Econometrica, Econometric Society, vol. 73(1), pages 175-202, January.
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    7. Ricardo Lagos & Randall Wright, 2005. "A Unified Framework for Monetary Theory and Policy Analysis," Journal of Political Economy, University of Chicago Press, vol. 113(3), pages 463-484, June.
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    9. Kiyotaki, Nobuhiro & Wright, Randall, 1989. "On Money as a Medium of Exchange," Journal of Political Economy, University of Chicago Press, vol. 97(4), pages 927-954, August.
    10. University of Notre Dame & Christopher Waller, 2008. "Dynamic Taxation, Private Information and Money," 2008 Meeting Papers 896, Society for Economic Dynamics.
    11. Ricardo Lagos & Guillaume Rocheteau, 2005. "Inflation, Output, And Welfare," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 46(2), pages 495-522, May.
    12. Shouyong Shi, 1997. "A Divisible Search Model of Fiat Money," Econometrica, Econometric Society, vol. 65(1), pages 75-102, January.
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    Cited by:

    1. Andolfatto, David, 2010. "Essential interest-bearing money," Journal of Economic Theory, Elsevier, vol. 145(4), pages 1495-1507, July.
    2. Antinolfi, Gaetano & Azariadis, Costas & Bullard, James, 2016. "The Optimal Inflation Target In An Economy With Limited Enforcement," Macroeconomic Dynamics, Cambridge University Press, vol. 20(02), pages 582-600, March.
    3. Guillaume Rocheteau, 2008. "Money and competing assets under private information," Working Paper 0802, Federal Reserve Bank of Cleveland.
    4. Alessandro Marchesiani & Aleksander Berentsen, 2010. "Standing Facilities Versus Open Market Operations: Equivalence Results," 2010 Meeting Papers 929, Society for Economic Dynamics.
    5. Sanches, Daniel & Williamson, Stephen, 2010. "Money and credit with limited commitment and theft," Journal of Economic Theory, Elsevier, vol. 145(4), pages 1525-1549, July.
    6. Berentsen, Aleksander & Monnet, Cyril, 2008. "Monetary policy in a channel system," Journal of Monetary Economics, Elsevier, vol. 55(6), pages 1067-1080, September.
    7. Stephen Williamson & Daniel Sanches, 2008. "Money and Credit with Limited Commitment," 2008 Meeting Papers 502, Society for Economic Dynamics.
    8. Guillaume Rocheteau, 2009. "A monetary approach to asset liquidity," Working Paper 0901, Federal Reserve Bank of Cleveland.

    More about this item

    Keywords

    Money; Memory; Incentives; Friedman Rule;

    JEL classification:

    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • E0 - Macroeconomics and Monetary Economics - - General

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