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Central Bank Independence and the `Free Lunch Puzzle': A New Perspective

Author

Listed:
  • Ali al-Nowaihi

    (University of Leicester)

  • Paul Levine

    (University of Surrey)

  • Alex Mandilaras

    (University of Surrey)

Abstract

A new perspective is provided on a puzzle that has emerged from the empirical lit- erature suggesting that government-independent central banks provide a `free lunch': lower in°ation is apparently achieved at no cost in terms of greater output variance. We assess the various explanations provided by the theoretical literature. After revis- iting the free lunch puzzle and con¯rming the empirical importance of open-economy effects, we develop a Rogoff-style delegation model that combines the latter with po- litical monetary cycle e®ects. We show that if all countries delegate monetary policy to government independent banks, as economies become more integrated then a low inflation, higher output variance trade-off re-emerges.

Suggested Citation

  • Ali al-Nowaihi & Paul Levine & Alex Mandilaras, 2006. "Central Bank Independence and the `Free Lunch Puzzle': A New Perspective," School of Economics Discussion Papers 0806, School of Economics, University of Surrey.
  • Handle: RePEc:sur:surrec:0806
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    References listed on IDEAS

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    More about this item

    Keywords

    central bank independence; open economy; political uncertainty;
    All these keywords.

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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