The Time Consistency of Optimal Monetary Policy with Heterogeneous Agents

This paper studies the structure and time consistency of optimal monetary policy from a public finance perspective in an economy where agents differ in preference for liquidity and holdings of nominal assets. I find that the presence of distributional effects breaks the link between time consistency and high inflation, which characterizes representative agent models. For a large class of economies, optimal monetary policy is time consistent. I relate these findings to key historical episodes of inflation and deflation.