Discretionary Policy and Multiple Equilibria / Robert G. King.

Format:

Book

Author/Creator:

King, Robert G.

Contributor:

National Bureau of Economic Research.

Series:

Working Paper Series (National Bureau of Economic Research) no. w12076.

NBER working paper series no. w12076

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2006.

Summary:

Discretionary policymaking can foster strategic complementarities between private sector decisions, thus leading to multiple equilibria. This article studies a simple example, originating with Kydland and Prescott, of a government which must decide whether to build a dam to prevent adverse effects on floods on the incomes of residents of a floodplain. In this example, it is socially inefficient to build the dam and for people to live on the floodplain, with this outcome being the unique equilibrium under policy commitment. Under discretion, there are two equilibria. First, if agents believe that few of their fellow citizens will move to the floodplain, then they know that the government will choose not to build the dam and there is therefore no incentive for any individual to locate on the floodplain. Second, if agents believe that there will be many floodplain residents, then they know that the government will choose to build the dam and even small benefits of living on the floodplain will lead them to choose that location. In this second equilibrium, all individuals are worse off.

Notes:

Print version record

March 2006.