On credible monetary policy and private government information

Credible and optimal monetary policies are considered in environments in wh ich the government observes a signal that is correlated with the state of t he economy. When the signal is public information it is optimal for monetar y policy to be conditioned upon it. The extent to which such conditioning s hould occur when the signal is the private information of the government de pends upon the government's incentives to misrepresent information. It is s hown that in some cases the Ramsey policy is incentive compatible, in other s it is not. In the latter cases, policy must be constrained to be incentiv e compatible. This may result in "penalty phases" along the equilibrium pat h following apparent "mistakes" by the policy maker; it may result in the o ptimal monetary policy making no use of the signal. (C) 2001 Academic Press .