Working Paper: NBER ID: w20566
Authors: Francesco Bianchi; Leonardo Melosi
Abstract: We develop and estimate a general equilibrium model in which monetary policy can deviate from active inflation stabilization and agents face uncertainty about the nature of these deviations. When observing a deviation, agents conduct Bayesian learning to infer its likely duration. Under constrained discretion, only short deviations occur: Agents are confident about a prompt return to the active regime, macroeconomic uncertainty is low, welfare is high. However, if a deviation persists, agents' beliefs start drifting, uncertainty accelerates, and welfare declines. If the duration of the deviations is announced, uncertainty follows a reverse path. When estimated to match past U.S. experience, our model suggests that transparency lowers uncertainty and increases welfare.
Keywords: No keywords provided
JEL Codes: C11; D83; E52
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| increased transparency (G38) | lower uncertainty (D81) |
| lower uncertainty (D81) | enhanced welfare (I38) |
| short deviations from active inflation stabilization (E63) | low macroeconomic uncertainty (D89) |
| short deviations from active inflation stabilization (E63) | high welfare (I31) |
| persistent deviations (C62) | increased uncertainty (D89) |
| persistent deviations (C62) | declining welfare (I38) |
| agents' beliefs about future policy (D84) | increased uncertainty (D89) |
| deviations from active policy announced (E63) | uncertainty follows a reverse path (D89) |
| transparency mitigates negative effects of prolonged deviations (L15) | better anticipation of future policy actions (D84) |
| better anticipation of future policy actions (D84) | reduced pessimism about inflation stabilization (E31) |
| increased transparency (G38) | enhanced social welfare (I38) |