It has been recognized that the optimal strategy of a government is generally time-inconsistent: optimality requires that the government take into account expectations effects in the formulation of its policy and to ignore these effects when applying the policy. In order to analyse the problem,...

The paper addresses the Kydland and Prescott (1977) argument that the optimal policy in models with rational expectations is time-inconsistent. This, it is argued, undermines the credibility of the optimal policy in the eyes of the private sector, who will expect the policy-maker to reoptimize....

This survey essay considers how rational expectations have changed our evaluation of monetary policy. In the first section, various underpinnings of the "Phillips curve" relation between inflation and output are reviewed. All are concluded to be products of particular institutional set-ups whose...

This paper proposes and applies to the London Business School (LBS) model a general methodology for the design of macroeconomic policy using large rational expectations models. Design proceeds through the following four stages: first, a small, linear representation of the original large,...

If private sector agents hold rational expectations, they will predict any future policy switches. Discounting the announced optimal policies, if they are not credible, will lead to a response which deprives the government of any incentive to renege on previous announcements and of the benefits...

We define and study transparency, credibility and reputation in a model where the central bank’s characteristics are unobservable to the private sector and are inferred from the policy outcome. A low-credibility bank optimally conducts a more inflationary policy than a high-credibility bank,...

We test for evidence that US trade policy depends on the degree of government discretion. We do this by studying US tariff choices under two distinct environments. One is that of tariffs set under the Escape Clause (section 201 of the US Trade Act of 1974). The other is the Tokyo Round of GATT...

This paper develops a dynamic model of seigniorage in which economies' equilibrium paths reflect the ongoing strategic interaction between an optimizing government and a rational public. The model extends existing positive models of monetary policy and inflation by explicitly incorporating the...

This paper re-examines the issue of the credibility and sustainability of optimal policies derived from Pontryagin's Maximum Principle and generally regarded as time-inconsistent, in models with forward-looking rational expectations. Specifically, it considers the behaviour of such models in the...

This paper extends the work of Barro and Gordon (1983) to general linear models with rational expectations. We examine the question whether the optimal policy rule, i.e. the one that a government which could pre-commit itself would use, can be sustained as a consistent rule in the sense defined...