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DP454 Credibility and Stabilization

Author(s): Rudiger Dornbusch
Publication Date: September 1990
Keyword(s): Credibility , Stabilization
JEL(s): 110 , 130 , 300
Programme Areas: International Macroeconomics
Link to this Page: www.cepr.org/pubs/dps/DP454.asp


When governments attempt stabilization why do they not undertake a programme certain to succeed? The paper discusses credibility when it is inconceivable that a programme will succeed with probability one. A cost-benefit analysis establishes an equilibrium programme that has some ex ante probability of failure, so that credibility is always less than full. The context is a one-shot game in which policy-makers are uncertain about the response of the instruments or the post-stabilization economic environment. As a positive theory of stabilization, the paper identifies the factors that increase the chances of success of a programme.

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