Equilibrium multiplicity and uniqueness under inflation targeting

Abstract

Macroeconomic models often have multiple equilibria. Nonetheless, a popular view on inflation targeting posits that this policy helps to coordinate agents’ expectations and actions. This paper provides a rationalization for this notion. I consider an infinitely repeated game, built on the Barro-Gordon model, in which the central bank incurs a fixed penalty whenever the actual inflation rate differs from the announced target and study how changes in the penalty impact its equilibria. I conclude that, in consonance with the aforementioned view, an inflation-targeting policy lessens the problem of equilibrium multiplicity. However, by itself, it is unlikely to achieve uniqueness.