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Title: Independent but Accountable: Walsh Contracts and the Credibility Problem

Author(s): A Al-Nowaihi and Paul L Levine

Publication Date: April 1996

Keyword(s): Central Bank Contract, Credibility, Renegotiation and Reputation

Programme Area(s): International Macroeconomics

Abstract: Walsh (1995) addresses the government-central bank principal-agent problem where there exists a severe information extraction problem. This is solved by a ?Walsh contract? which links the income of the central bank to observed macroeconomic variables, output and inflation. The contract does not solve the time-inconsistency problem, however. There will be circumstances where a renegotiation of the contract benefits all parties involved and non-renegotiation-proofness destroys its credibility as a commitment device. But the contract?s strength is that renegotiation can be very visible and this facilitates a reputational solution to the problem, set out in this paper.

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Bibliographic Reference

Al-Nowaihi, A and Levine, P. 1996. 'Independent but Accountable: Walsh Contracts and the Credibility Problem'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=1387