Deus ex machina wanted: time inconsistency of time consistency solutions in monetary policy

Florin Bilbiie ()
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Florin Bilbiie: Nuffield College, Oxford and CEP, London School of Economics and EUI, Florence, http://www.nuffield.ox.ac.uk/Users/Bilbiie/index.htm

No 2005-W10, Economics Papers from Economics Group, Nuffield College, University of Oxford

Abstract: This paper argues that delegation (optimal institutional design) is not a solution to the dynamic inconcistency problem, and can even reinforce it. We show that 'optimal' delegation is not consistent with government's incentives. We solve for delegation schemes that are consistent with these incentives and find that they imply 'no delegation'. Introducing a cost of reappointing the central banker just postpones the problem, and can only solve it if the government is infinitely averse to changing central bank's contract. Our results hint to: (i) alternative explanations for good anti-inflationary performance; (ii) strengthening central bank independence and (iii) giving a more prominent role to Central Bank reputation building in fighting inflation.

Pages: 16 pages
Date: 2005-03-10
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:nuf:econwp:0510

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