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Federal Reserve Bank of Philadelphia
Working Papers
Sustainable monetary policy and inflation expectations
Roc Armenter
Abstract

The author shows that the short-term nominal interest rate can anchor private-sector expectations into low inflation more precisely, into the best equilibrium reputation can sustain. He introduces nominal asset markets in an infinite horizon version of the Barro-Gordon model. The author then analyzes the subset of sustainable policies compatible with any given asset price system at date t = 0. While there are usually many sustainable inflation paths associated with a given set of asset prices, the best sustainable inflation path is implemented if and only if the short-term nominal bond is priced at a certain discount rate. His results suggest that policy frameworks must also be evaluated on their ability to coordinate expectations.


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Roc Armenter, Sustainable monetary policy and inflation expectations, Federal Reserve Bank of Philadelphia, Working Papers 10-20, 2010.
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Keywords: Inflation (Finance) ; Interest rates ; Asset pricing
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