Credibility in Monetary Policy
AbstractThis essay examines credibility in monetary policy. In particular it follows Blinder’s (2000) survey in focusing on why such credibility is important and the role that central bank transparency plays in determining it. It also considers what happens when credibility changes. It finds that credibility is particularly important for maintaining low and stable inflation through its effect on inflation expectations and that transparency’s role involves influencing those expectations. Improving credibility may actually increase volatility unless central banks take the change into account and adjust their reaction functions accordingly.
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