The Great Deception: The 'Science' of Monetary Policy and the Great Moderation Revisited

Gilberto Lima and Mark Setterfield

No 2017_26, Working Papers, Department of Economics from University of São Paulo (FEA-USP)

Abstract: Conventional wisdom suggests that the Great Moderation was caused by either good policy, good luck (favourable shocks), more efficient private sector behaviour (such as better inventory management), or more effective financial innovations. We show that it may, instead, have originated from the complementarity of an erroneous reading of the economy by central bankers and evolutionarily time-varying heterogeneity in inflation expectations formation within the private sector. One general finding of our analysis is that seemingly inadequate stabilization policies may, in fact, work. We comment on the broader ramifications for stabilization policy of this finding.

Keywords: Great Moderation; monetary policy; inflation targeting; macroeconomic Stability; heterogeneous inflation expectations; satisficing evolutionary dynamics. (search for similar items in EconPapers)
JEL-codes: B52 E12 E31 E32 E52 E58 E71 (search for similar items in EconPapers)
Date: 2017-10-31
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Working Paper: The Great Deception: the ‘science’ of monetary policy and the Great Moderation revisited (2017)
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