Explaining an Inflation Bias Without Using the Word 'Surprise'

Abstract

The seminal theory of monetary credibility problems due to Barro and Gordon has recently been widely criticized. A main element in this criticism is that the model's equilibrium inflation bias emerges from the monetary authority's incentive to "surprise" the private sector. This is argued as being an inadequate description of real life monetary policymakers, who are purportedly not in the business of surprising or fooling people. The main purpose of this note is to show that by reformulating the original model, one can derive and explain its excessive equilibrium inflation without any use of the word "surprise."

Keywords: Monetary policy, surprise inflation, inflation bias, Barro and Gordon model

JEL Classification: E42, E52, F58