tBehavioral bias – loss aversion – can explain monetary policy inertia in setting interest rates. Economicliterature has tended to explain inertia in monetary policymaking in terms of frictions and delays, or hasstressed the role of governance rules. We introduce a new driver of inertia, independent from frictionsand central bank governance settings. While the degree of conservatism doesn’t necessarily producemonetary inertia, we show that introducing loss aversion in individual behavior influences the stanceof monetary policy under three different but convergent perspectives. First of all, a Moderation Effectcan emerge, i.e. the number of pigeons increases. At the same time also a Hysteresis Effect can becomerelevant, whereby both doves and hawks soften their attitudes. Finally a Smoothing Effect tends to stabilizethe number of pigeons. Together, the three effects consistently cause higher monetary policy inertia.

Doves, hawks and pigeons: behavioral monetary policy and interest rate inertia

FAVARETTO, FEDERICO;MASCIANDARO, DONATO
2016

Abstract

tBehavioral bias – loss aversion – can explain monetary policy inertia in setting interest rates. Economicliterature has tended to explain inertia in monetary policymaking in terms of frictions and delays, or hasstressed the role of governance rules. We introduce a new driver of inertia, independent from frictionsand central bank governance settings. While the degree of conservatism doesn’t necessarily producemonetary inertia, we show that introducing loss aversion in individual behavior influences the stanceof monetary policy under three different but convergent perspectives. First of all, a Moderation Effectcan emerge, i.e. the number of pigeons increases. At the same time also a Hysteresis Effect can becomerelevant, whereby both doves and hawks soften their attitudes. Finally a Smoothing Effect tends to stabilizethe number of pigeons. Together, the three effects consistently cause higher monetary policy inertia.
2016
2016
Favaretto, Federico; Masciandaro, Donato
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Utilizza questo identificativo per citare o creare un link a questo documento: https://hdl.handle.net/11565/3990813
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