SSE/EFI Working Paper Series in Economics and Finance 426
Most of the literature on monetary policy delegation assumes that the government can credibly commit to the delegation contract, an assumption criticized by McCallum. This paper provides foundations for the assumption that renegotiating a delegation contract can be costly by illustrating how political institutions can generate inertia in recontracting, reduce the gains from it or prevent it altogether. Once the nature of renegotiation costs has been clarified, it is easier to see why certain institutions can mitigate or solve dynamic inconsistencies better than others. The paper points to institutions which give Western democracies the technology to make credible delegation commitments, and argues that the ECB is an example of credible delegation.
constitution delegation inertia renegotiation costs separation of powers