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Monetary Policy, Endogenous Inattention, and the Volatility Trade-off

William Branch (), John Carlson (), George Evans () and Bruce McGough ()

University of Oregon Economics Department Working Papers from University of Oregon Economics Department

Abstract: This paper addresses the output-price volatility puzzle by studying the interaction of optimal monetary policy and agents' beliefs. We assume that agents choose their information acquisition rate by minimizing a loss function that depends on expected forecast errors and information costs. Endogenous inattention is a Nash equilibrium in the information processing rate. Although a decline of policy activism directly increases output volatility, it indirectly anchors expectations, which decreases output volatility. If the indirect effect dominates then the usual trade-off between output and price volatility breaks down. This provides a potential explanation for the "Great Moderation" that began in the 1980's.

Keywords: expectations; optimal monetary policy; bounded rationality; economic stability; adaptive learning (search for similar items in EconPapers)
JEL-codes: D83 D84 E31 E52 (search for similar items in EconPapers)
Pages: 52
Date: 2004-12-07, Revised 2007-05-15
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Related works:
Journal Article: Monetary Policy, Endogenous Inattention and the Volatility Trade-off (2009)
Journal Article: Monetary Policy, Endogenous Inattention and the Volatility Trade‐off (2009) Downloads
Working Paper: Monetary Policy, Endogenous Inattention, and the Volatility Trade-off (2006) Downloads
Working Paper: Monetary policy, endogenous inattention, and the volatility trade-off (2004) Downloads
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