When Can Central Banks Anchor Expectations? Policy Communication and Controllability
21 Pages Posted: 17 Feb 2009
Date Written: December 2008
Rational expectations are often used as a strong argument against policy activism, as they may undermine or neutralize the policymakers actions. Although this sometimes happens, rational expectations do not always imply policy invariance or ineffectiveness. In fact, in certain circumstances rational expectations can enhance our power to control an economy over time. In those cases, policy announcements, properly communicated, can be used to extend the impact of conventional policy instruments. In this paper we present a general forward-looking policy framework and use it to provide a formal justification for attempting to anchor expectations, and as a possible justification for publishing interest rate forecasts or tax rate projections. This approach allows us to test when policymakers can and cannot expect to be able to manage expectations.
Keywords: controllability, fiscal policy, monetary policy, policy neutrality, Rational expectations
JEL Classification: C61, C62, E52, E61, E62
Suggested Citation: Suggested Citation