Incentive schemes for central bankers under uncertainty: inflation targets versus contracts

Eric Schaling (), Marco Hoeberichts () and Sylvester Eijffinger ()

Bank of England working papers from Bank of England

Abstract: The implications of uncertain policy preferences for the targeting and contracting approaches to monetary policy are investigated. It is shown that, in the presence of uncertain preferences, a linear incentive contract in the sense of Walsh performs better than an explicit inflation target as proposed by Svensson. The reason is that an inflation target produces a higher variance of inflation. It is also shown that itis optimal to offer a linear inflation contract that does not depend on the degree of preference uncertainty.

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