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On the Sources of the Inflation Bias and Output Variability

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  • Gustavo Piga

    () (University of Rome II)

Abstract

Why do dynamic inconsistencies in monetary policy exist? In this paper a traditional model without put inefficiencies is introduced, but monetary policy is allowed to be influenced by the various constituencies in the economy, that pressure Congress in turn to pressure the central bank to adopt a particular policy stance. The paper shows that in this economy an inflation bias arises due to the lobbying pressures of outsiders. Furthermore, it shows that if lobbying pressures are high enough, an inflation bias cannot be avoided for any finite level of central bank independence. It also shows that introducing the realistic feature of lobbying pressures has an impact on the stabilization properties of monetary policy. When a supply shock occurs, the shock is totally absorbed by a non myopic trade union which has no lobbying costs. This is independent of any finite degree of conservativeness of the central banker, who has to accept an extreme increase in price instability. It is shown that monetary policy delegation is therefore sub-optimal in achieving price-stability compared to labor-market reforms meant to remove monopsonistic elements. However, the same structural policies will induce greater output instability by strengthening the power of conservative central bankers

Suggested Citation

  • Gustavo Piga, 2005. "On the Sources of the Inflation Bias and Output Variability," CEIS Research Paper 66, Tor Vergata University, CEIS.
  • Handle: RePEc:rtv:ceisrp:66
    as

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    References listed on IDEAS

    as
    1. Piga, Gustavo, 2000. " Dependent and Accountable: Evidence from the Modern Theory of Central Banking," Journal of Economic Surveys, Wiley Blackwell, vol. 14(5), pages 563-595, December.
    2. Fratianni, Michele & von Hagen, Jurgen & Waller, Christopher J, 1997. "Central Banking as a Political Principal-Agent Problem," Economic Inquiry, Western Economic Association International, vol. 35(2), pages 378-393, April.
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    7. Karl Brunner, 1985. "The Poverty of Nations," Cato Journal, Cato Journal, Cato Institute, vol. 5(1), pages 37-49, Spring/Su.
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    9. Herrendorf, Berthold & Neumann, Manfred J.M., 1998. "The Political Economy of Inflation and Central Bank Independence," CEPR Discussion Papers 1787, C.E.P.R. Discussion Papers.
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    13. Grier, Kevin B., 1991. "Congressional influence on U.S. monetary policy : An empirical test," Journal of Monetary Economics, Elsevier, vol. 28(2), pages 201-220, October.
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    More about this item

    JEL classification:

    • 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
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation

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