Expectations and NGDP Targeting: Supply-Side Problems with Demand-Side Policy
Journal of Private Enterprise, forthcoming
25 Pages Posted: 9 Oct 2014 Last revised: 21 Apr 2018
Date Written: April 12, 2018
This paper considers the effects of changing expectations under macroeconomic policies that rely on targeting nominal variables, such as NGDP targeting. These proposals, in line with a dynamic conception of the equation of exchange, argue that the monetary authority can achieve any dynamic monetary equilibrium, provided favorable public expectations. The problem of changing public expectations, however, cannot be assumed away. Because the public may only find a subset of dynamic monetary equilibria attainable, attempts to coordinate around an equilibrium perceived to be unobtainable can have unintended consequences. We demonstrate in a New Keynesian model that demand-side stabilization policy can shift inflation expectations, resulting in supply-side difficulties. This problem serves as a warning against demand-side fundamentalism in macroeconomic policy.
Keywords: Aggregate Demand Stabilization, Expectations, Monetary Equilibrium, Monetary Policy, NGDP Targeting, Stagflation, Supply Side
JEL Classification: E32, E52, E58, E66
Suggested Citation: Suggested Citation