Credibility of Policies Versus Credibility of Policymakers

34 Pages Posted: 26 Apr 2001 Last revised: 30 Aug 2010

See all articles by Allan Drazen

Allan Drazen

University of Maryland - Department of Economics; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Paul R. Masson

International Monetary Fund (IMF) - Research Department; The Brookings Institution

Multiple version iconThere are 2 versions of this paper

Date Written: September 1993

Abstract

Standard models of policy credibility. defined as the expectation that an announced policy will be carried out. emphasize the preferences of the policymaker (his "type") and the role of policies in signaling type. Whether a policy is carried out. however. should also reflect the state of the economy. so that even a "tough" policymaker may renege on an announced policy in adverse circumstances. We investigate this alternative notion of credibility, using an "escape clause" model of devaluation. 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 the process driving unemployment, following a tough policy in a given period may lower rather than raise the credibility of a no-devaluation pledge in subsequent periods. in contrast to the results in the earlier literature. We test this implication on EMS interest rates and find support for our hypothesis.

Suggested Citation

Drazen, Allan and Masson, Paul R., Credibility of Policies Versus Credibility of Policymakers (September 1993). NBER Working Paper No. w4448. Available at SSRN: https://ssrn.com/abstract=227306

Allan Drazen (Contact Author)

University of Maryland - Department of Economics ( email )

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Centre for Economic Policy Research (CEPR)

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National Bureau of Economic Research (NBER)

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Paul R. Masson

International Monetary Fund (IMF) - Research Department ( email )

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United States

The Brookings Institution ( email )

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United States
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