Abstract
Why do even benevolent policymakers frequently break their promises? Kydland and Prescott (1977) discovered that, when outcomes depend on expectations, rational policy choices typically depend on whether (a) the policymaker takes into account the constraint that the expected policy is the actual policy or (b) she takes expectations as given. A government that commits itself to a policy takes this constraint into account, a government that acts at its discretion does not. Since the commitment policy leads to a better outcome, there is the temptation to announce it and then to abandon this policy. This is the time inconsistency problem.
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Klein, P. (2018). Time Consistency of Monetary and Fiscal Policy. In: The New Palgrave Dictionary of Economics. Palgrave Macmillan, London. https://doi.org/10.1057/978-1-349-95189-5_2479
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DOI: https://doi.org/10.1057/978-1-349-95189-5_2479
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