Implementing the commitment solution via discretionary policy-making

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2022
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Macroeconomic Dynamics ; 2022. - Cambridge University Press. - ISSN 1365-1005. - eISSN 1469-8056
Abstract
This paper demonstrates that, in a large class of linear-quadratic models with rational expectations, losses due to time-inconsistency problems can be avoided, as the commitment solution can be implemented by a policy-maker who acts under discretion. We focus on two approaches. First, we show that a non-Markovian, reputational equilibrium that implements the commitment solution always exists. Second, we show how delegation to a policy-maker with an additional objective for the policy instrument can be used to implement the commitment solution via a standard discretionary Markov equilibrium. Implementation is facilitated by the fact that the commitment outcome can be attained irrespective of the weight that the policy-maker assigns to the additional target. Using the standard new Keynesian model as an example, we study the dynamics of the economy under optimal additional output targets as well as optimal interest-rate targets for central banks.
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330 Economics
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ISO 690HAHN, Volker, 2022. Implementing the commitment solution via discretionary policy-making. In: Macroeconomic Dynamics. Cambridge University Press. ISSN 1365-1005. eISSN 1469-8056. Available under: doi: 10.1017/S1365100522000499
BibTex
@article{Hahn2022-06-13Imple-58991,
  year={2022},
  doi={10.1017/S1365100522000499},
  title={Implementing the commitment solution via discretionary policy-making},
  issn={1365-1005},
  journal={Macroeconomic Dynamics},
  author={Hahn, Volker}
}
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