Abstract
The public's expectations about government policy are a key influence on the economy and can be more important than the policy itself. By allowing the public to know that it is considering reflation outside the Medium Term Financial Strategy, the government is reducing the credibility of the MTFS. This Forecast Release draws on some of the latest developments in economic theory, in the field of ‘time inconsistency’, to argue that the early years of the MTFS suffered from continuing but incorrect expectations that the policy would be abandoned. To avoid repeating this mistake, the government should promptly concede the current calls for reflation if it is unable to resist them, although a preferable outcome for unemployment and inflation can be achieved by re‐affirming the MTFS. A worse outcome than either of these is obtained if the government continues with the MTFS while leaving open the possibility of a sudden reflation.
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