MONETARY POLICY OBJECTIVES AND TARGETS
421
However, the private sector has perfect information and knows the central
bank’s loss function as well as the unemployment-inflation trade-offs as given
by the Phillips curve. They will then set their inflation expectations as
rational
expectations
and equal to the central bank’s optimal inflation rate of
e
=
s
in the next time period despite an announcement of
=
0 now. This means
that they will not take the central bank’s announcement that it is targeting to
achieve an inflation rate of zero as
CREDIBLE
. Having set
e
=
s
, the new short-
run Phillips curve
SRPC ...
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