Sunspots and monetary policy

Abstract

A monetary economy subject to expectational sunspots is prone to instability, in the sense of multiple rational expectations equilibria. We show how to modify the policy rule to guarantee stability in the presence of expectational sunspots. The policy-maker must co-ordinate in ation dynamics by targeting each of lagged, current and expected in ation. We show that this solution maps directly into the timeless perspective by Woodford. Finally, we trace the responses in an arti cial sunspot economy to the adoption of our rule and illustrate the extent to which macroeconomic persistence is reduced.