Optimal Central Banker Contracts and Common Agency

This paper considers the contracting approach to centralbanking in a simple common agency model. We suggest thatcentral banker contracts that do not consider the possibilityof more than one principal existing are incomplete contracts.Such incomplete contracts can be a poor form ofmonetary policy delegation under common agency. We develop amodel with two principals – society (government) and ageneric interest group, whose objective conflicts withsociety’s ex ante preferences by incorporating an inflationarybias. We determine when the government-offered orinterest-group-offered contract dominates the central banker’sdecision. The results largely depend on whether theinterest-group-offered contract is written in terms of outputor inflation.     

The Walsh contract for central bankers proves optimal after all!

A recent paper argues that the Walsh linear inflation contract does not prove optimal when the government concerns itself about the cost of the central bank contract (Candel-Sánchez & Campoy-Miñarro, 2004). This result relies on assuming that the participation constraint does not represent an effective constraint on the central banker’s decision. We show that the Walsh linear inflation contract does produce the optimal outcome, even when the government cares about the cost of the contract, assuming that the participation constraint holds.     

Investment and labor income shares

Economic Change and Restructuring - We explore empirically the determinants of labor shares focusing on the role of investment. We use a cross-country framework and consider up to 99 countries for...     

Central Banker Contracts, Incomplete Information, and Monetary Policy Surprises: In Search of a Selfish Central Banker?

Approaching monetary policy as a principal-agent problemprovides a useful framework for interpreting alternativedelegation schemes. In this paper, we consider theeffectiveness of central banker incentive schemes when theprincipal delegates monetary policy through contracts butremains uncertain about the central banker's responsiveness tosuch schemes. We adopt a simple principal-agent model andassume that the central banker's trade-off between socialwelfare and the incentive scheme is private information. Weconsider two types of central bankers; one who responds to theincentive scheme (``selfish'') and one who does not and onlycares about social welfare (``benevolent''). We demonstratethat when a benevolent central banker accepts a contractdesigned for a selfish central banker, positive inflationsurprises occur and output exceeds its natural rate. Wefurther show that a benevolent central banker with aninflation bias has an incentive to masquerade as selfish.Mechanisms exist that solve that problem by achievingpreference revelation. We consider a simple mechanism indominant strategies that induces the benevolent type eithernot to breach or not to accept the appointment (contract) inthe first place. This multi-period mechanism works with eitherinflation targets, or the appointment of a conservativecentral banker. Our results suggest that more complicatedincentive schemes, embedded within broader constitutionalarrangements, are required in the presence of privateinformation for them to work effectively.