Adaptive Learning, Heterogeneous Expectations and Forward Guidance

In a model of the New Keynesian Phillips Curve with two E-stable solutions we demonstrate through simulations that forward guidance can ensure the economy settles on the low persistence equilibrium. While market participants use sample autocorrelation learning, the Central Bank uses least squares learning of the MSV solution. Central bank policy is a simple inflation target that is enforced based on policy makers expectations. Monetary policy on its own is not enough to ensure that the low persistence equilibrium obtains.