Time inconsistency in monetary policy : a discussion of solutions

• Autor(a) principal: Costa, Pedro Henrique Zecchin
• Data de Publicação: 2021
• Tipo de documento: Trabalho de conclusão de curso
• Idioma: eng
• Título da fonte: Repositório Institucional da UFRGS
• Texto Completo: http://hdl.handle.net/10183/225715
• topic: Política monetária; Inflação; Modelo matemático; Rules versus Discretion; Time Inconsistency; Inflation Bias; Monetary Policy

Kydland and Prescott (1977) demonstrate that the inability of a discretionary policymaker to commit to a future plan of action may lead to a suboptimal result. A promise to follow a better outcome is time-inconsistent: the policymaker has incentives to ex-post deviate from the announced policy. This study discusses how rules, rather than discretion, can mitigate the time-inconsistency problem in monetary policy. The second chapter builds a canonical model to demonstrate that the discretionary policy leads to inflation bias. The model is then modified to examine solutions suggested by the relevant literature. The third chapter discusses the trade-offs associated with institutional solutions, in which the policymaker alters the behavior of the monetary authority. More specifically, I consider three rule-based solutions: a zero-inflation rule, an independent central bank, and a state-contingent rule. Finally, I investigate how reputation can alleviate the time consistency problem even with a discretionary policymaker.