On the perils of stabilizing prices when agents are learning

Antonio Mele, Krisztina Molnar () and Sergio Santoro
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Krisztina Molnar: Dept. of Economics, Norwegian School of Economics and Business Administration, Postal: NHH , Department of Economics, Helleveien 30, N-5045 Bergen, Norway, https://www.nhh.no/en/employees/faculty/krisztina-molnar/

No 22/2018, Discussion Paper Series in Economics from Norwegian School of Economics, Department of Economics

Abstract: The main advantage of price level stabilization compared with inflation stabilization rests on the central bank's ability to shape expectations. We show that stabilizing prices is no longer optimal when the central bank can shape expectations of agents with incomplete knowledge, who have to learn about the policy implemented. Disinating in the short run more than agents expect generates short-term gains without triggering an abrupt loss of confidence, because agents update expectations sluggishly. Following this policy, in the long run, the central bank loses the ability to shape agents' beliefs, and the economy converges to a rational expectations equilibrium in which policy does not stabilize prices, economic volatility is high, and agents su er the corresponding welfare losses. However, these losses are outweighed by short-term gains from the learning phase.

Keywords: Price; stabilization (search for similar items in EconPapers)
JEL-codes: C62 D83 D84 E52 (search for similar items in EconPapers)
Pages: 35 pages
Date: 2018-10-26
New Economics Papers: this item is included in nep-cba, nep-mac, nep-mon and nep-upt
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Citations: View citations in EconPapers (1)

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Related works:
Journal Article: On the perils of stabilizing prices when agents are learning (2020)
Working Paper: On the Perils of Stabilizing Prices when Agents are Learning (2015)
Working Paper: On the perils of stabilizing prices when agents are learning (2015)
Working Paper: On the perils of stabilizing prices when agents are learning (2014)
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