FRB: Can the U.S. Monetary Policy Fall (Again) in an Expectation Trap?

International Finance Discussion Papers

Can the U.S. Monetary Policy Fall (Again) in an Expectation Trap?
Roc Armenter, Martin Bodenstein
2006-860 (May 2006)

Abstract: We provide a tractable model to study monetary policy under discretion. We focus on Markov equilibria. For all parametrizations with an equilibrium inflation rate around 2%, there is a second equilibrium with an inflation rate just above 10%. Thus the model can simultaneously account for the low and high inflation episodes in the U.S. We carefully characterize the set of Markov equilibria along the parameter space and find our results to be robust.

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Keywords
Time inconsistency, inflation, expectation traps

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Last update: May 23, 2006