Monetary Policy Decision-Making by Committees Under Risk and Uncertainty
International Network for Economic Research Working paper series, No. 2012.11
29 Pages Posted: 27 Sep 2013 Last revised: 20 Oct 2019
Date Written: November 22, 2012
Monetary policy-makers face various types of uncertainty and these uncertainties are exacerbated during episodes of a financial crisis. Blinder (2004) suggests that monetary policy committees help to make better decisions in the presence of uncertainty. In this paper, we explore monetary policy decision-making under risk and uncertainty within an insurance model with expected utility-maximizing policy-makers. We assume that policy-makers are different in terms of their backgrounds, experience and skills and they may disagree on the appropriate policy response. In a monetary policy committee, they share information and decide on interest rates by means of an agreed voting rule. We derive under what condition committees are expected to take better monetary policy decisions than single policy-makers. We also show that, in the presence of risk and search costs, it would be optimal for policy-makers to fully insure against the expected loss from a potential policy error. In practice, whether a monetary policy committee sufficiently hedges against this risk, may depend on several factors such as the skills of policy-makers, members’ beliefs, and the committee’s (statutory) voting rule.
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