Transparency and Credibility: Monetary Policy With Unobservable Goals

We define and study transparency, credibility, and reputation in a model where the central bank's characteristics are unobservable to the private sector and inferred from the policy outcome. Increased transparency makes the bank's reputation and credibility more sensitive to its actions. T...

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Bibliographic Details
Published in:International economic review (Philadelphia) 2001-05, Vol.42 (2), p.369-397
Main Authors: Faust, Jon, Svensson, Lars E. O.
Format: Article
Language:English
Subjects:
Activism
Banking policy
Banks
Central banks
Credibility
Economic models
Economic theory
Employment
Equilibrium
Federal Reserve Bank
Modelling
Monetary economics
Monetary policy
Policy analysis
Private sector
Reputations
Steady state economies
Studies
Supply shocks
Transparency
Unobservables
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Summary:We define and study transparency, credibility, and reputation in a model where the central bank's characteristics are unobservable to the private sector and inferred from the policy outcome. Increased transparency makes the bank's reputation and credibility more sensitive to its actions. This moderates the bank's policy and induces the bank to follow a policy closer to the socially optimal one. Full transparency of the central bank's intentions is generally socially beneficial but frequently worse for the bank. Somewhat paradoxically, direct observability of idiosyncratic central bank goals removes the moderating influence on the bank and leads to the worst equilibrium.
ISSN:0020-6598
1468-2354
DOI:10.1111/1468-2354.00114