The Return of Inflation: Look-Through Policy Under Incomplete Information

Ginters Buss and Guido Traficante

No 2025/02, Working Papers from Latvijas Banka

Abstract: This paper studies monetary policy in a New Keynesian model with incomplete information regarding the persistence of cost-push shocks. The central bank and the private sector gradually learn about the persistence of the shock as it propagates through the economy. The central bank adopts a look-through policy in response to temporary cost-push shocks; otherwise, it follows a Taylor rule. If agents initially believe the cost-push shock to be temporary, while the true shock is persistent, it takes some time for the central bank, acting initially under an incorrect assumption, to realise its mistake and switch to monetary tightening. As a result, the actual inflation is higher than in a complete information case. Data-dependent discretionary early liftoff strategies can partially mitigate the effects of the initial policy misjudgment. Contrary to the full-information conditions, the findings cast doubt on the effectiveness of look-through policies in environments of incomplete information, irrespective of the actual persistence of the cost-push shock.

Keywords: monetary policy; imperfect information; cost-push shock; high inflation (search for similar items in EconPapers)
JEL-codes: D83 E17 E31 E47 E52 (search for similar items in EconPapers)
Date: 2025-03-05
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Persistent link: https://EconPapers.repec.org/RePEc:ltv:wpaper:202502

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