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In this paper I study the effect of imperfect central bank commitment on inflationary outcomes. I present a model in which the monetary authority is a committee that consists of members who serve overlapping, finite terms. Older and younger generations of Monetary Policy Committee (MPC) members decide on policy by engaging in a bargaining process. I show that this setup gives rise to a continuous measure of the degree of monetary authority's commitment. The model suggests that the lower the churning rate or the longer the tenure time, the closer social welfare will be to that under optimal commitment policy.
The list of those to whom I am indebted is a long one. Prof. Neil Wallace (University of Minnesota) stimulated my interest in the kind of models with which the book deals. I am grateful for a large number of conversations with him. I learned a lot from him and will always be proud that I have been one of his student. I hope that he is not dissappointed with the outcome. I am deeply indebted to Prof. Dr. Hans-Werner Sinn (University of Munich). His observations and critical remarks were instrumental for a great number of changes and improvements which I was able to introduce while revising the manuscript again and again, and rethinking the basic arguments. I also want to thank Prof. Dr. Utta Gruber (University of Munich) for her helpful comments and for her support. I am very much obliged to Prof. Dr. Dr. h. c. Hans Moller (University of Munich). For many years I have had the honour of a nearly continuous dialogue with him. I am also grateful to Prof. Dr. Werner Gumpel (University). The stimulating atmosphere and the research opportunities which were provided by his seminar contributed a lot to my work. Finally I want to thank my wife Sigrid for looking through the English draft of this book and correcting numerous linguistic flaws. The remaining errors are of course mine. CONTENTS Page v Preface 1. INTRODUCTION 1. 1.
This paper studies an overlapping generations economy with capital where limited communication and stochastic relocation create an endogenous transactions role for fiat money. We assume a production function with a knowledge externality (Romer-style) that nests economies with endogenous growth (AK form) and those with no long-run growth (the Diamond model). We show that the Tobin effect is always operative. Under CRRA (constant relative risk aversion) preferences, a mild degree of social increasing returns is sufficient (but not necessary) for some positive inflation to dominate zero inflation and for the Friedman rule to be suboptimal, irrespective of the degree of risk aversion.
This paper develops a large scale overlapping generations model and calibrates it for the U.S. economy. Simulations with the model show that the steady state welfare maximizing inflation rate may be positive, although the numerical results are not robust. It is also shown, however, that increases in the inflation rate are never Pareto efficient because during the transition to the new steady state at least some generations are made worse-off. Using an optimality criterion that takes into account the welfare of all generations, it is found that implementing Friedman’s rule is a Pareto superior policy, and that the efficiency gains derived from implementing such rule could be substantial.
Froyen and Guender have provided a thorough and careful analysis of optimal monetary policy over most of the range of theoretical models that have been used in modern macroeconomics. By providing a comprehensive and clear comparative framework they will help the student of monetary policy understand why there have been conflicting views of what policy makers should do. Central Banking In Optimal Monetary Policy Under Uncertainty, academicians and economists Richard T. Froyen and Alfred V. Guender have collaborated on presenting an informed and informative survey of optimal monetary policy literature arising during the 1970s and 1980s as a ground work for understanding current market and other economic influences on such germane issues as discretion versus commitment, target versus instrument rules, and the delegation of policy making authority within the private and public sectors. With meticulous attention to scholarship and objectivity. . . Optimal Monetary Policy Under Uncertainty is a thoughtful and thought-provoking body of work that is very strongly recommended for professional, academic, corporate and governmental economic reference collections and supplemental reading lists. Midwest Book Review Recently there has been a resurgence of interest in the study of optimal monetary policy under uncertainty. This book provides a thorough survey of the literature that has resulted from this renewed interest. The authors ground recent contributions on the science of monetary policy in the literature of the 1970s, which viewed optimal monetary policy as primarily a question of the best use of information, and studies in the 1980s that gave primacy to time inconsistency problems. This broad focus leads to a better understanding of current issues such as discretion versus commitment, target versus instrument rules, and the merits of delegation of policy authority. Casting a wide net, the authors survey the recent literature on the New Keynesian approach to optimal monetary policy in the context of the earlier literature. They emphasize the relationship between policy decisions and the information set available to the policymaker, a central focus of the earlier literature, obscured in much recent work. Optimal policy questions are considered in open as well as closed economy models and the often confusing terminology in the literature is sorted and clarified. Questions are considered within easily analysed models and the authors clearly show why these models lead to different (or equivalent) policy conclusions. Recent policy issues such as desirability of inflation targeting and the relative merits of target versus instrument rules are covered in detail. Economists in academia and in policymaking organizations who want to learn about recent developments in the area of optimal monetary policy, as well as graduate and advanced undergraduate students in macroeconomic and monetary economics, will find this volume a clear and thorough examination of the topic.
An important recent advance in macroeconomics is the development of dynamic stochastic general equilibrium (DSGE) macromodels. The use of DSGE models to study monetary policy, however, has led to paradoxical and puzzling results on a number of central monetary issues including price determinacy and liquidity effects. In Money, Interest, and Policy, Jean-Pascal Benassy argues that moving from the standard DSGE models - which he calls "Ricardian" because they have the famous "Ricardian equivalence" property-to another, "non-Ricardian" model would resolve many of these issues. A Ricardian model represents a household as a homogeneous family of infinitely lived individuals, and Benassy demonstrates that a single modification-the assumption that new agents are born over time (which makes the model non-Ricardian)-can bridge the current gap between monetary intuitions and facts, on one hand, and rigorous modeling, on the other. After comparing Ricardian and non-Ricardian models, Benassy introduces a model that synthesizes the two approaches, incorporating both infinite lives and the birth of new agents. Using this model, he considers a number of issues in monetary policy, including liquidity effects, interest rate rules and price determinacy, global determinacy, the Taylor principle, and the fiscal theory of the price level. Finally, using a simple overlapping generations model, he analyzes optimal monetary and fiscal policies, with a special emphasis on optimal interest rate rules
The main arguments of this paper can be summarized as follows. (1) The overlapping-generations (OG) structure provides a useful framework for the analysis of macroeconomic issues involving intertemporal allocation. (2) As a "model of money," the basic OG setup -- which excludes cash-in-advance or money-in-the-utility-function (MIUF) features -- is inadequate and misleading because it neglects the medium-of-exchange property that is the distinguishing characteristic of money. (3) That this neglect obtains is verified by noting that, in contrast with an axiomatic "traditional presumption," the same aggregate leisure/consumption bundles are available in equilibria in which "money" is valued and valueless. (4) That the model may be misleading is demonstrated by examples in which three of its most striking properties --tenuousness of monetary equilibrium, optimality of zero money growth, and price level invariance to open-market exchanges -- disappear in the presence of modifications designed to reflect the medium-of-exchange property. (5) There is no compelling reason why cash-in-advance, MIUF, or other appendages should not be used in conjunction with the OG framework