On two notions of imperfect credibility in optimal monetary policies

Abstract

We explore how outcomes of optimal monetary policy with loose commitment (Schaumburg and Tambalotti, 2007; Debortoli and Nunes, 2010) with the non-reoptimization probability of α can be interpretable as outcomes of deeper optimal policy under sustainable plans (Chari and Kehoe, 1990) with N-period punishment. In a standard monetary-policy framework, we show that, for any sufficiently high value of α, there exists an integer N such that impulse responses to the cost-push shock under each policy are similar to each other.

Imperfect Credibility Versus No Credibility of Optimal Monetary Policy

“…A key determinant of the efficiency of stabilization policy is the degree of the credibility of policy makers, measured by their probability of not reneging their commitment or the probability of a change of the head of the central bank. This paper shows that the equilibrium in a model of optimal policy under quasi-commitment (Schaumburg and Tambalotti [2007], Fujiwara, Kam and Sunakawa [2019]) is completely different from the discretion equilibrium with no commitment and more relevant for policy makers, even if the probability of non-reneging tends to zero (near-zero credibility). This latter discretion equilibrium, however, is presented as a relevant benchmark equilibrium in numerous papers since Clarida, Gali and Gertler [1999], for example in Gali [2015].…”

Credible Forward Guidance

“…10 The instability of the time-iteration method in the presence of a sustainability constraint with low values of N is not specific to the model with ELB. The second author of this paper experienced a similar instability issue in Fujiwara, Kam, and Sunakawa (2019). We leave the task of developing a robust algorithm for models with sustainability constraints to future research.…”

“…the optimal allocation in an international business cycle model in which a deviation from the promised plan would push the economy to autarky. Fujiwara, Kam, and Sunakawa (2016) study the optimal sustainable policy in a two-country model in which the deviation from the promised cooperative plan would push the countries into a non-cooperative regime. Most closely related to our paper is Sunakawa (2015) who characterizes the optimal sustainable policy in a New Keynesian model with cost-push shocks but without the ELB constraint.…”

“…17 While these two approaches differ from each other in many ways, both approaches share the same spirit that they are intended to shed light on what the central bank may be able to achieve when no explicit commitment technology is available. Indeed, recent work by Fujiwara, Kam, and Sunakawa (2019) shows that, when using a model without the ELB, the allocations under the loose commitment approach with an appropriately chosen re-optimization probability can approximate the allocation under the OSP with N -period punishment reasonably well for any N . While we believe their result is likely to extend to the model with ELB, it would be useful to verify the validity of their claim in our model in future research.…”

Hopf Bifurcation From New-Keynesian Taylor Rule to Ramsey Optimal Policy

“…Several names have been given to this kind of policy: "stochastic replanning" Roberds (1987) or "quasi commitment" (Schaumburg and Tambalotti (2007), Kara (2007)). The assumption is observationally equivalent to Chari and Kehoe's (1990) optimal policy under sustainable plans, facing a punishment threat at a given horizon in case of deviation from an optimal plan (Fujiwara et al (2019)). The discretionary equilibrium where the central bank reoptimizes continuously without any credibility (q = 0) is a point of measure zero with respect to the continuous interval q ∈ ]0, 1].…”