Working Paper: NBER ID: w8912
Authors: Stefania Albanesi; VV Chari; Lawrence J. Christiano
Abstract: Why is it that inflation is persistently high in some periods and persistently low in other periods? We argue that lack of commitment in monetary policy may bear a large part of the blame. We show that, in a standard equilibrium model, absence of commitment leads to multiple equilibria, or expectation traps. In these traps, expectations of high or low inflation lead the public to take defensive actions which then make it optimal for the monetary authority to validate those expectations. We find support in cross-country evidence for key implications of the model.
Keywords: No keywords provided
JEL Codes: E5; E61; E63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Lack of commitment in monetary policy (E49) | Multiple equilibria (expectation traps) (D59) |
| High inflation expectations (E31) | Price-setting behavior (higher prices) (L11) |
| Price-setting behavior (higher prices) (L11) | Monetary authority actions (inflate to validate expectations) (E52) |
| Low inflation expectations (E31) | Price-setting behavior (lower prices) (L11) |
| Price-setting behavior (lower prices) (L11) | Monetary authority actions (lower monetary expansion) (E52) |
| Monetary authority actions (inflate to validate expectations) (E52) | Inflation outcomes (E31) |
| Monetary authority actions (lower monetary expansion) (E52) | Inflation outcomes (E31) |
| Expectations (high or low) (D84) | Public behavior (defensive actions from firms and households) (D22) |
| Expectations (high or low) (D84) | Inflation outcomes (E31) |