| Abstract: |
| Modern monetary policy has emphasized that maintaining a stable monetary environment depends crucially on the ability of the policy regime to control inflation (and output) expectations. In fact, the activity of modern Central Banks is a form of management of expectations. The present work considers a standard New Keynesian model, described by a two-dimensional nonlinear map, to analyze the bifurcation structure
when agents own heterogeneous expectations on inflation and output gap, and update their beliefs based on
past performance. Agents are then allowed to switch among predictors over time. Depending on the degree of reactivity of the monetary policy to inflation and output deviations from the target equilibrium, different kind of dynamics may occur. Multiple equilibria and complicated dynamics,
associated to codimension-2 bifurcations, may arise even if the monetary policy adheres to the Taylor principle. We show that if the monetary policy accommodates for a sufficient degree of output stabilization, complicated dynamics can be avoided and the number of coexisting equilibria reduces.
In the second part of the analysis, an arbitrarily large number of agents` beliefs is considered by applying
the concept of Large Type Limit. In this respect, the intensity of choice or the spread of beliefs is crucial for
the extent of the Central Bank to stabilize the economy. When the predictors are largely dispersed around
the target, the Taylor principle is a requisite for stability; when the set of beliefs is somehow anchored to the
target, stability can be achieved with a weaker monetary policy. |
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