an economic theory of self control the concept of self control is incorporated in a theory of individual intertemporal choice by modeling the individual as an organization the individual at a point in time is assumed to be both a farsighted planner and a myopic doer the resulting conflict is seen to be fundamentally similar to the agency conflict between the owners and managers of a firm both individuals and firms use the same techniques to mitigate the problems which the conflicts create this paper stresses the implications of this agency model and discusses as applications the effect of pensions on saving saving and the timing of income flows and individual discount rates

financial intermediation reserve requirements and inside money a general equilibrium analysis abstract reserve requirements are examined in a general equilibrium context the paper develops a simple general equilibrium model that includes diverse opportunities for investment and a role for financial intermediaries two versions of the model are considered one is a thought experiment in which currency serves purely to satisfy legal reserve requirements the other is more realistic the model is used to analyze the comparative static effects of changes in reserve requirements the effects of changes in other parameters of the economy in the presence of reserve requirements and some qualitative issues raised by reserve requirements

signalling commitment with monetary and inflation targets abstract this article studies a two period game between the public and a central bank about whose ability to commit to an announced target the public is uncertain the central bank chooses between announcing a target for an intermediate variable money growth and its goal variable inflation prior to setting its instrument the central bank receives private noisy information about the link between money growth and inflation monetary targeting facilitates communication of the central bank s type in that the probability of separation is always higher than under inflation targeting this advantage of monetary targets from a dependable central bank s perspective is outweighed for most parameter values by the advantage of inflation targeting in terms of inflation control if the regime choice is treated as a strategic decision over a large range of parameter values both central banks choose the regime that a dependable central bank would prefer

the incompatibility of valued money and equilibrium policy abstract in an overlapping generations economy an equilibrium is defined such that at each date the young agent determines values for that period s monetary and fiscal instruments a proposition showing money cannot have value in any such equilibrium is proved

inflation and reputation in many macroeconomic models with rational expectations optimal policy is time inconsistent and therefore announced policy may not be credible this paper models the government s credibility explicitly using kreps and wilson s analysis time consistent optimal government policy emerges as a sequential equilibrium in a repeated game this policy is at least as good as the inconsistent optimal policy and dominates the consistent policy when reputational effects are ignored thus the analysis resolves the problem of specifying a credible optimal policy in such models the results show why attempts to disinflate may lead to recession even with perfectly flexible prices this abstract was borrowed from another version of this item

monetary policy inclinations we examine whether central banks should complement their inflation forecasts with interest rate projections introducing a central bank loss function that accounts for deviations from announcements we incorporate the publication of policy inclinations into a dynamic monetary model we show that in the presence of cost push shocks the publication of interest rate forecasts tends to improve welfare

equilibrium policy in an overlapping generations economy abstract this paper offers a mechanism for reducing the number of stationary equilibria that arise in a simple two period lived overlapping generations economy since each equilibrium is associated with a different combination of monetary and fiscal policies i assume that at each date the agent in his second period of life determines how that period s monetary and fiscal instruments will be set i show that the set of stationary equilibria where this occurs is a proper and nonempty subset of the set of stationary competitive equilibria and that at least one such equilibrium is a pareto optimum

on the complementarity of commercial policy capital controls and inflation tax this paper studies the optimal use of distortive policies aimed at raising a given real revenue in a general equilibrium framework in which lump sum taxes are absent the policies analysed are an inflation tax commercial policy and an implicit tax on capital inflows it is shown that we would tend to avoid activating an inflation tax for small revenue needs if the policy target were allocative we would tend to use only one policy instrument thus each policy has its own comparative advantage and their combined use is justified when the target is raising government revenue

pegged exchange rate regimes a trap this paper studies the empirical and theoretical association between the duration of a pegged exchange rate and the cost experienced upon exiting the regime we confirm empirically that exits from pegged exchange rate regimes during the past two decades have often been accompanied by crises the cost of which increases with the duration of the peg before the crisis we explain these observations in a framework in which the exchange rate peg is used as a commitment mechanism to achieve inflation stability but multiple equilibria are possible we show that there are ex ante large gains from choosing a more conservative not only in order to mitigate the inflation bias from the well known time inconsistency problem but also to steer the economy away from the high inflation equilibria these gains however come at a cost in the form of the monetary authority s lesser responsiveness to output shocks in these circumstances using a pegged exchange rate as an anti inflation commitment device can create a trap whereby the regime initially confers gains in anti inflation credibility but ultimately results in an exit occasioned by a big enough adverse real shock that creates large welfare losses to the economy we also show that the more conservative is the regime in place and the larger is the cost of regime change the longer will be the average spell of the fixed exchange rate regime and the greater the output contraction at the time of a regime change

credibility of policies versus credibility of policymakers standard models of policy credibility defined as the expectation that an announced policy will be carried out emphasize the preferences of the policymaker and the role of tough policies in signaling toughness and raising credibility whether a policy is carried out however will also reflect the state of the economy we present a model in which a policymaker maintains a fixed parity in good times but devalues if the unemployment rate gets too high our main conclusion is that if there is persistence in unemployment observing a tough policy in a given period may lower rather than raise the credibility of a no devaluation pledge in subsequent periods we test this implication on ems interest rates and find support for our hypothesis

intertemporal trades and problems of self control abstract this paper develops a model which explains how individuals manage self control strategies for situations in which an average level of activity per unit time is what needs controlling the focus of the model is intertemporal trades times when for example a dieter decides to eat dessert with lunch by promising himself he will forego dessert at dinner self control is managed successfully by those who learn to complete such trades the paper analyzes the process of learning about the reliability of ones strategies for intertemporal trades

time consistent collection of optimal seigniorage a unifying framework this paper reviews the existing literature on the time consistency problem of seigniorage collection when monetary policy is determined by optimal taxation considerations it develops a unifying accounting framework and suggests a general measure for seigniorage which encompasses the standard measures employed in the literature in addition the ex ante optimal solution to the optimal taxation problem is derived and interpreted in relation to the ramsey principle we show that the different recommendations of the public finance literature i e the friedman rule of optimal deflation moderately positive inflation and seigniorage maximizing inflation are specific solutions to the optimal taxation problem the paper continues with a formal illustration of the time consistency problem of the ex ante optimal policy and the characterization of the time consistent solution under discretion as possible solutions to the time consistency problem we consider reputational forces institutional reforms that establish central bank independence and specific ways of asset and debt management in particular it is formally shown that a modified version of the asset and debt management scheme suggested by persson persson and svensson is not only necessary but also sufficient for optimality although this did not hold in their model

monetary and fiscal policies in a general equilibrium model in the short run if price expectations are inelastic the government has full control of the nominal interest rate while the model is purely competitive the conclusions are similar to those of the standard is lm analysis in the long run it is argued that the proper measure of the government deficit is not the usual one the interests lost by the money holders because of the transactions constraint must be included as an additional government income the seignoriage tax

reputation and imperfect information abstract a common observation in the informal literature of economics and elsewhere is that is multistage games players may seek early in the game to acquire a reputation for being tough or benevolent or something else but this phenomenon is not observed in some formal game theoretic analyses of finite games such as selten s finitely repeated chain store game or in the finitely repeated prisoners dilemma we reexamine selten s model adding to it a small amount of imperfect or incomplete information about players payoffs and we find that this addition is sufficient to give rise to the reputation effect that one intuitively expects

when and how much to talk credibility and flexibility in monetary policy with private information abstract this paper analyzes the role of noisy or imprecise announcements in mitigating the basic credibility problem in monetary policy based on a model where the monetary authority s private information gives rise to an unavoidable trade off between flexibility and credibility the analysis finds that noisy announcements can serve as a meaningful form of communication to make that trade off more favorable however such talk is not cheap the analysis predicts that those central banks who can speak more precisely are those who are less likely to speak at all

rational expectations and policy credibility following a change in regime we examine the dynamic path of an economy after a change in regime when neither the policy to be followed nor the reactions of the public are known the model is an application of kreps and wilson s reputation model to barro and gordon s macroeconomic policy game equilibrium is defined to be the dynamically consistent solution to a game between the government and the private sector it involves mixed strategies and bayesian learning by both sides until the uncertainty about government and public behaviour is resolved the absence of complete credibility of government policy and intransigence of private sector wage demands increase the output loss of disinflation the analysis also sheds light on the strategic nature of economic policymaking and the role of information in macroeconomics

on government deficits and speculation the authors consider a dynamic stochastic general equilibrium model with a representative consumer investor and two producing firms all the assets are real investments of capital into productive processes government expenditures taxes and money financing are explicitly incorporated the holding of money is modeled through a cash in advance constraint fundamental budget deficits generated by flat rate expenditure and income tax rules can be financed by printing money or randomly levying temporary wealth taxes modeled as a poisson process characterization and properties of the balanced budget rational expectations equilibrium are analyzed it is shown that government may promote growth by adjusting the fundamental deficit copyright 1990 by economics department of the university of pennsylvania and the osaka university institute of social and economic research association

the optimum quantity of money rule in the theory of public finance this paper examines optimal tax policy in a monetary economy in which money serves as an intermediate good that helps facilitate the conversion of scarce resources into tinal consumption goods by enabling consumers to economize on the costs of transacting it is shown that in such an environment even though distorting taxes must be levied for revenue purposes the optimal tax structure calls for abstaining from inflationary finance and adopting the optimum quantity of money rule

how many paychecks an example of a self imposed constraint i introduction the case of ulysses and the sirens is one of the most interesting puzzles for the model of rational behavior 1 ulysses knew enough about himself to know that he would not be able to control his behavior when under the spell of the sirens so he had himself bound to the mast had wax put into the ears of his crew and instructed them to completely disregard any gestures he might make it is reasonable to ask if ulysses knew enough to know that he would lose control when under the spell of the sirens why didn t he know enough to maintain control more generally if you are rational enough to know you are going to be irrational why can t you stop the irrationality apparently things are not so simple psychiatrist george ainslie 1975 1992 argues based upon a large body of experimental evidence in psychology that individuals have an inherent tendency to be myopic and this leads them to have to develop rules of behavior which limit options given the story of ulysses the process of imposing such constraints on oneself is sometimes called binding the christmas club is the traditional example of a self imposed constraint 2 the local credit union offers an account which has all of the attributes of the normal savings account and the added characteristic that the account holder cannot make any withdrawals until a specified date close to christmas given that the lack of flexibility inherent in the christmas club is combined with no compensating advantage of any sort e g higher interest rates standard analysis suggests the christmas club would have no takers but in fact there are many christmas club members 3 apparently a large number of individuals feel they cannot trust themselves to save money for christmas shopping in a normal savings account the christmas club gives them a way of tying their hands it is a self imposed constraint in this paper i examine behavior which might also be an example of a self imposed constraint at the college of william and mary a full time faculty member has the option of receiving her salary in eighteen equal payments over the nine month academic year or in twenty four equal payments over the entire year starting in september the twenty four month option has the look of a self imposed constraint 4 the faculty member who takes this option is foregoing interest earnings from a simple plan which deposits eighteen payments earns interest and finances the summer perhaps the faculty members who elect the twenty four payment option are like ulysses they know enough to know that they will not follow the plan they know enough to make a preference for the twenty four payment option is not necessarily evidence of a self imposed constraint taking eighteen payments squirreling away some of each payment and financing one s summer expenditures from what had accumulated during the academic year is a costly endeavor therefore a standard economic model based on transactions costs could also explain a preference for the twenty four payment option the purpose of this paper is to present a test of these two models ii theoretical analyses of the choice of the twenty four payment option a standard economic model the task at hand is to explain the demand for the twenty four payment option as compared to the eighteen payment option since the total salary is the same in both cases at any nonzero interest rate the present value of the eighteen payment option dominates the present value of the twenty four payment option this suggests that on a strict basis of economic rationality there would be no takers for the twenty four payment option at william and mary however over 67 percent of the faculty choose the twenty four payment option there is however a clear difficulty with simply comparing present values in this case such a comparison implicitly assumes that trips to the bank are costless a complete model should consider transactions costs

seigniorage old and new policy issues introduction abstract seigniorage is at the crossroad of many avenues of research a summary survey of older and more recent developments from the static allocative approach in the differential taxation framework to policy analyses of the effects of joining the ems for high deficit countries shows that there may be some disorderly traffic and that definite policy conclusions can hardly be drawn from models which so often neglect relevant markets and variables and in particular the financial sectors and financial assets

the determinants of the public debt in the united states 1953 1978 barro claims that since the public rationally forecasts and discounts future taxes government debt does not represent net wealth to the public and therefore does not affect any real economic variables then why are there ever deficits barro has presented a theory of optimal deficits based on intertemporal tax smoothing the theory predicts that nominal debt grows in proportion to anticipated inflation varies contracyclically with respect to real income cycles and varies procyclically with respect to war cycles barro tested his theory using annual american data for 1922 76 and found weak support for his theory this paper reexamines barro s tests using quarterly american data for 1953 q1 to 1978 q4 and finds stronger support for barro s theory than barro found using annual data this paper also concludes that state and local governments do not engage in tax smoothing behavior probably due to considerations of migration and that the debt held by the central bank should be included in the definition of public debt

procrastination and obedience in this lecture i shall focus on situations involving repeated decisions with time inconsistent behavior although each choice may be close to maximizing and therefore result in only small losses the cumulative effect of a series of repeated errors may be quite large thus in my examples decision makers are quite close to the intelligent well informed individuals usually assumed in economic analysis but cumulatively they make seriously wrong decisions that do not occur in standard textbook economics this lecture discusses and illustrates several pathological modes of individual and group behavior procrastination in decision making undue obedience to authority membership of seemingly normal individuals in deviant cult groups and escalation of commitment to courses of action that are clearly unwise in each case individuals choose a series of current actions without fully appreciating how those actions will affect future perceptions and behavior the standard assumption of rational forwardlooking utility maximizing is violated the nonindependence of errors in decision making in the series of decisions can be explained with the concept from cognitive psychology of undue salience or vividness for example present benefits and costs may have undue salience relative to future costs

international market linkages and optimal monetary policy abstract the interrelation among portfolio choice and labor supply decisions and real balance effects is examined under flexible exchange rates on the asset menu are home currency domestic government bonds and foreign bonds with commodity market linkages the real balance effect is highlighted as the inefficiency of an economy with positive government bonds is demonstrated while the additional linkage of interest rates through covered interest parity may transform an economy where only money is useful into an economy in which both money and government bonds are beneficial

inflationary finance under discrepion and rules inflationary finance involves first the tax on cash balances from expected inflation and second a capital levy from unexpected inflation from the standpoint of minimizing distortions these capital levies are attractive ex post to the policymaker in a full equilibrium two conditions hold 1 the monetary authority optimizes subject to people s expectations mechanisms and 2 people form expectations rationally given their knowledge of the policymaker s objectives the outcomes under discretionary policy are contrasted with those generated under rules in a purely discretionary regime the monetary authority can make no meaningful commitments about the future behavior of money and prices under an enforced rule it becomes possible to make some guarantees hence the links between monetary actions and inflationary expectations can be internalized there is a distinction between fully contingent rules and rules of simple form a simple rule allows the internalization of some connections between policy act ion and inflationary expectations but discretion permits some desirable flexibility of monetary growth this abstract was borrowed from another version of this item

characterization of the optimal tax on money when it functions as a medium of exchange abstract this paper compares the relative efficiency of the implicit taxation of money and the explicit taxation of real commodities to finance a given amount of government expenditures in the model used money has the property of reducing transactions costs a sufficient condition for a tax on money to be welfare dominated by a linear tax on consumption expenditures is characterized in terms of a few parameters very familiar in macroeconomics this characterization is especially useful in the cases of heterogeneous consumers and increasing returns to scale in transactions since then the optimal tax on money may in principle be positive

cheap talk and the fed a theory of imprecise policy announcments this paper examines the problem faced by the federal reserve in announcing its private information about its future policies because it would like to manipulate expectations and pursue a time inconsistent policy the fed cannot reveal its policy objectives precisely and credibly it can however communicate some information about its goals through the cheap talk mechanism of vincent crawford and joel sobel making announcements that are imprecise and only giving ranges within which these goals may lie copyright 1989 by american economic association

self command in practice in policy and in a theory of rational choice an increasingly familiar occurrence for obstetricians is being asked by patients to withhold anesthesia during delivery the physician often proposes that a facemask be put beside the patient who may inhale nitrous oxide as she needs it but some determined patients ask that no such opportunity be provided if gas is available they will use it and they want not to be able to the request is interesting for decision theory and raises questions of ethics policy and physician responsibility even if the woman is merely making a mistake if she simply does not know how painful labor will be and how glad she will be even in retrospect if the pain is relieved but some women who make this request have had earlier deliveries during which they demanded anesthesia and received it they are acquainted with the pain they anticipate asking for relief and they want it withheld when they do they expect to regret afterwards any recourse to anesthesia this particular instance of attempted selfdenial has features that are special but many that are common the woman is so far as we know in good health physically and mentally she anticipates a transient period when her usual values and preferences will be suspended or inaccessible she has reasons for wanting to frustrate her own wishes at the critical time she needs cooperation she may ratify her choice afterward by expressing herself grateful that no anesthesia was offered even when requested there are ethical dilemmas and legal issues and there is conflict if say the husband disagrees with the physician in the delivery room about what his wife really wants

optimal accommodation by strong policymakers under incomplete information abstract this paper examines the optimal behavior of a policymaker who is able to precommit labelled strong when the public entertains the possibility that he is either strong or weak unable to precommit the main result is that in the presence of doubts about their type it is optimal even for strong policymakers to partially accommodate inflationary expectations this contrasts with vickers 1986 who finds that when strength is conceived in terms of the relative concern for employment the strong policymaker inflates less under incomplete than under full information the paper also provides a theory of endogenous announcements

predation reputation and entry deterrence abstract economists often argue that predatory practices are irrational since there exist cheaper or more certain means to gain or maintain a monopoly our gametheoretic equilibrium analysis suggests that if a firm is threatened by several potential entrants then predation may be rational against early entrants even if it is costly when viewed in isolation because it yields a reputation which deters other entrants asymmetric information plays a crucial role in our analysis since it provides the rationale for entrants to base their expectations of the firm s future behavior on its past actions the analysis also suggests methods to treat general reputational phenomena

transparency reputation and credibility under floating and pegged exchange rates this paper shows that if the cost of importing foreign inflation and real exchange rate shocks are not too high then the equilibrium nominal exchange rate regime for a country with a credibility problem is a peg under which credibility is higher and inflation is lower than under a float this holds true although devaluations of the pegged rate are assumed to be costless the reason is that as realized inflation is not perfectly controllable planned inflation under a float is private information in contrast since the exchange rate can be perfectly controlled pegging resolves the private information problem is more transparent and makes reputation more effective

optimal reputation building in the new keynesian model abstract we study the optimal committed monetary policy when the private sector has imperfect information and has to infer the central banker s ability to commit the optimal policy is designed to influence learning and improve the central banker s reputation of being committed the reputation building implies that when a committed central banker first takes office he should resist the temptation to stimulate output with initially high but declining inflation he should reverse a missed inflation target rather than accommodate it and he should adopt a less accommodative inflation response to a cost push shock than a full commitment solution suggests

reputation in a model of monetary policy with incomplete information abstract previous models of rules versus discretion are extended to include uncertainty about the policymaker s type when people observe low inflation they raise the possibility that the policymaker is committed to low inflation type 1 this enhancement of reputation gives the uncommitted policymaker type 2 an incentive to masquerade as the committed type in the equilibrium the policymaker of type 1 delivers surprisingly low inflation with corresponding costs to the economy over an extended interval the type 2 person mimics this outcome for awhile but shifts eventually to high inflation this high inflation is surprising initially but subsequently becomes anticipated

optimal financing of the government s budget taxes bonds or money financing of the government s budget in particular we consider taxation bond issuance and money creation as alternative means of financing these issues are not new some of them were extensively explored in the public finance literature some of them were explored in the monetary theory literature what we believe to be new however is that our work integrates the relevant elements from both strands of literature into a unified general equilibrium framework with this approach we are able to jointly determine the optimal combination of tax rates the rate of inflation and the interest rate on government bonds this type of analysis enables us to ask whether the rate of inflation should be positive or negative and to provide simple conditions on compensated demand elasticities which determine the answer it also enables us to reconsider milton friedman s optimum quantity of money rule in a public finance framework without lump sum taxes and to show how this rule should be modified in addition we provide insight into the desirability of a social security scheme by showing that such a program is undesirable when social security payments are financed

optimal taxation and inflation in an open economy abstract this paper examines the role of the inflation tax in the optimal revenue raising tax package for a small open economy where money is held because it serves to reduce transacttions costs associated with purchasing goods consumers choose whether domestic money or foreign money will serve as the medium of exchange for various goods purchases so as to minimize such costs results are derived regarding the appropriate role of taxes on domestic and foreign money in the optimal tax structure it is demonstrated that with a sufficiently rich tax structure friedman s rule which calls for a monetary policy that drives the nominal interest rate to zero is a component of the optimal tax policy