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Faculty of Economics

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Brendon, C. and Ellison, M.

Time-Consistently Undominated Policies

CWPE1809

Abstract: This paper proposes and characterises a new normative solution concept for Kydland and Prescott problems, allowing for a commitment device. A policy choice is dominated if either (a) an alternative exists that is superior to it in a time-consistent subdomain of the constraint set, or (b) an alternative exists that Paretodominates it over time. Policies may be time-consistently undominated where time-consistent optimality is not possible. We derive necessary and sufficient conditions for this to be true, and show that these are equivalent to a straightforward but significant change to the first-order conditions that apply under Ramsey policy. Time-consistently undominated policies are an order of magnitude simpler than Ramsey choice, whilst retaining normative appeal. This is illustrated across a range of examples.

Keywords: Time Consistency, Undominated Policy, Ramsey Policy

JEL Codes: D02 E61

Author links: Charles Brendon  

PDF: http://www.econ.cam.ac.uk/research-files/repec/cam/pdf/cwpe1809.pdf

Open Access Link: https://doi.org/10.17863/CAM.21784