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Managing Expectations without Rational Expectations


  • George-Marios Angeletos


  • Karthik Sastry

    (Massachusetts Institute of Technology)


Should a policymaker offer forward guidance by committing to a path for the policy instrument or a target for an equilibrium outcome? We study how the optimal approach depends on plausible bounds on agents’ depth of knowledge and rationality. Agents make mistakes in predicting, or reasoning about, the behavior of others and the GE effects of policy. The optimal policy minimizes the bite of such mistakes on implementability and welfare. This goal is achieved by fixing and com- municating an outcome target if and only if the GE feedback is strong enough. Our results suggest that central banks should stop talking about interest rates and start talking about unemployment when faced with a steep Keynesian cross or a prolonged liquidity trap.

Suggested Citation

  • George-Marios Angeletos & Karthik Sastry, 2019. "Managing Expectations without Rational Expectations," 2019 Meeting Papers 1537, Society for Economic Dynamics.
  • Handle: RePEc:red:sed019:1537

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    References listed on IDEAS

    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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    6. Olivier Coibion & Yuriy Gorodnichenko & Saten Kumar & Jane Ryngaert, 2018. "Do You Know That I Know That You Know...? Higher-Order Beliefs in Survey Data," NBER Working Papers 24987, National Bureau of Economic Research, Inc.
    7. Emmanuel Farhi & Iván Werning, 2019. "Monetary Policy, Bounded Rationality, and Incomplete Markets," American Economic Review, American Economic Association, vol. 109(11), pages 3887-3928, November.
    8. Dmitriy Sergeyev & Luigi Iovino, 2017. "Quantitative Easing without Rational Expectations," 2017 Meeting Papers 1387, Society for Economic Dynamics.
    9. William Poole, 1969. "Optimal choice of monetary policy instruments in a simple stochastic macro model," Special Studies Papers 2, Board of Governors of the Federal Reserve System (U.S.).
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    1. > Macroeconomics > Monetary Theory

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