Bounded Rationality, Monetary Policy, and Macroeconomic Stability

Arbeitspapier

This paper estimates a Behavioral New Keynesian model to revisit the evidence that passive US monetary policy in the pre-1979 sample led to indeterminate equilibria and sunspot-driven fluctuations, while active policy after 1982, by satisfying the Taylor principle, was instrumental in restoring macroeconomic stability. The model assumes “cognitive discounting”, i.e., consumers and firms pay less attention to variables further into the future. We estimate the model allowing for both determinacy and indeterminacy. The empirical results show that determinacy is preferred both before and after 1979. Even if monetary policy is found to react only mildly to inflation pre-Volcker, the substantial degrees of bounded rationality that we estimate prevent the economy from falling into indeterminacy.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: CESifo Working Paper ; No. 7706

Classification and Topics

• Classification: Wirtschaft ; Price Level; Inflation; Deflation ; Business Fluctuations; Cycles ; Monetary Policy ; Central Banks and Their Policies ; Macro-Based Behavioral Economics: General‡
• Subject: Behavioral New Keynesian model ; cognitive discounting ; estimation under determinacy and indeterminacy ; Taylor principle ; active vs passive monetary policy

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Ilabaca, Francisco ; Meggiorini, Greta ; Milani, Fabio
• Event: Veröffentlichung
• (who): Center for Economic Studies and ifo Institute (CESifo)
• (where): Munich
• (when): 2019

Further information

• Handle: http://hdl.handle.net/10419/201932
• Last update: 10.03.2025, 11:42 AM CET