On the benefits of reducing uncertainty about policy

Riccardo M Masolo and Francesca Monti.

Newspapers and other media outlets regularly speculate about what the Bank of England might do in response to current economic conditions. Curiously, however, most of the models we use to carry out our economic and policy analysis completely disregard this type of uncertainty. Many of them consider how people would behave when uncertain about the state of the economy, yet everyone is assumed to know for sure the variables that the central bank will respond to, how aggressively and why. To try and fill this gap between the models we typically use and the reality we actually face, in our paper we explore the effects of Knightian uncertainty about the behaviour of the policymaker in an otherwise standard macro model. Continue reading “On the benefits of reducing uncertainty about policy”