Rational Ambiguity and Monitoring the Central Bank

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dc.contributor.author Hughes Hallett, Andrew
dc.contributor.author Demertzis, Maria
dc.date.accessioned 2004-10-04T22:17:43Z
dc.date.available 2004-10-04T22:17:43Z
dc.date.issued 2004-02
dc.identifier.citation Demertzis, Maria and Andrew Hughes Hallett. "Rational Ambiguity and Monitoring the Central Bank." Workin Paper No. 04-W04. Dept. of Economics, Vanderbilt University. Nashville, TN, Feb. 2004. en
dc.identifier.uri http://hdl.handle.net/1803/21
dc.description.abstract In this paper we examine the consequences of having a Central Bank whose preferences are state contingent. This has variously been identified in the literature as a Central Bank that is "rationally inattentive", "risk averse", or "constructively ambiguous". The new feature in this paper is that we show how the private sector is likely to react. There are two possibilities: the public can form rational expectations and internalize the uncertainty about the Bank's preferences in full. Alternatively, and particularly if the process of internalization is costly, it can form a best guess regarding those preferences. This latter case implies a strategy of certainty equivalence. We examine the magnitude of the resulting error in inflation and output if the certainty equivalence approximation is used. Under all reasonable levels of uncertainty, the error turns out to be small. In that case, the certainty equivalence strategy would be "rational". But it involves trading off accepting a deflation bias against the cost of gathering the information needed to calculate the full rational expectations solution. en
dc.format.extent 411975 bytes
dc.format.mimetype application/pdf
dc.language.iso en_US
dc.publisher Vanderbilt University. Dept. of Economics en
dc.relation.ispartofseries Working Paper
dc.subject Rational inattention en
dc.subject Central bank transparency en
dc.subject Ambiguity en
dc.subject Certainty equivalence en
dc.subject E58 en
dc.subject E52 en
dc.title Rational Ambiguity and Monitoring the Central Bank en
dc.type Working Paper en

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