Federal Reserve Bank of Chicago
Working Paper Series
Constrained Discretion and Central Bank Transparency
We develop and estimate a general equilibrium model to quantitatively assess the effects and welfare implications of central bank transparency. Monetary policy can deviate from active inflation stabilization and agents conduct Bayesian learning about the nature of these deviations. Under constrained discretion, only short deviations occur, agents’ uncertainty about the macroeconomy remains contained, and welfare is high. However, if a deviation persists, uncertainty accelerates and welfare declines. Announcing the future policy course raises uncertainty in the short run by revealing that active inflation stabilization will be temporarily abandoned. However, this announcement reduces policy uncertainty and anchors inflationary beliefs at the end of the policy. For the U.S., enhancing transparency is found to increase welfare. The same result is found when we relax the assumption of perfectly credible announcements.
Cite this item
Francesco Bianchi & Leonardo Melosi, Constrained Discretion and Central Bank Transparency, Federal Reserve Bank of Chicago, Working Paper Series WP-2016-15, 16 Oct 2016.
- C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
- D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
Keywords: Policy announcement; Bayesian learning; reputation; forward guidance; macroeco-nomic risk; uncertainty; inflation expectations; Markov-switching models; likelihood estimation
This item with handle RePEc:fip:fedhwp:wp-2016-15
is also listed on EconPapers
For corrections, contact Bernie Flores ()