Inflation, Wages and the Role of Money Under Discretion and Rules: A New Interpretation

Eran Yashiv

No 275585, Foerder Institute for Economic Research Working Papers from Tel-Aviv University > Foerder Institute for Economic Research

Abstract: This paper models a game-theoretic interaction between the monetary authority and a strategically active private sector. It aims to explore the real effects of monetary policy, wage setting behaviour and the consequences of stabilization and indexation policy. We find that when the private sector has an active role, "rules" and "discretion" are not as far apart as implied by the standard model prevalent in the literature. Both regimes are not Pareto-optimal equilibria and inflation may be positive even under "rules." We show that monetary policy may have real effects on output in the short-run due to strategic considerations by rational, petfectly informed wage-setters. The latter may act "tough" or "soft" depending upon the preferences of the policymaker facing them. We investigate the consequences of inflation stabilization policy and the means open to the government to mitigate its output costs. We also find that the prevalent intuition whereby more indexation should lead to more inflation is not always correct.

Keywords: Demand and Price Analysis; Financial Economics (search for similar items in EconPapers)
Pages: 42
Date: 1994-01
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Persistent link: https://EconPapers.repec.org/RePEc:ags:isfiwp:275585

DOI: 10.22004/ag.econ.275585

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