Beliefs formation and the puzzle of forward guidance power

Abstract

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Monetary policy when the objectives of central bankers are imperfectly observable

“…Understanding the sources and nature of this disagreement could have important implications for monetary policy and central bank communication. Recent works of experimental evidence (for example Binder, 2021) provide empirical support for the general premise of heterogeneous agent models with two types of private agents, distinguished by their expectations formation (Andrade et al., 2019; Beqiraj et al., 2019). In several papers, the two types are "credibility believers" (also called "fundamentalists"), who trust the central bank, expect future inflation to be near the central bank's inflation target, and use a Phillips curve, and "adaptive expectations users" (also called "naive" agents) who use only past inflation to forecast future inflation, because they do not observe the preferences of the central banker.…”

Disciplining expectations and the forward guidance puzzle

“…Another way to deal with the implausible responses of current outcomes to forward guidance shocks in the general equilibrium framework is obtained by incorporating bounded rationality and heterogeneous agents. While Gertler (2017) proposes a hybrid adaptive belief mechanism about trend inflation as an alternative to rational expectations, Beqiraj et al (2019) allow for heterogeneity in the expectations formation to temper the power of forward guidance.…”