Visibility and Credibility : On nominal anchors and other ways to send clear signals †

We investigate the interplay between government credibility and the visibility of policy-making, using the choice of a nominal anchor as an important example of how governments control visibility. We show that visibility has an important influence on how governments acquire credibility, and for this reason is a variable that governments use strategically. Policy-makers with stronger commitment to reform opt for more visible policies (e.g., an exchange-rate anchor) whereas policy-makers who cannot carry through with serious reform opt for noisier signals (e.g., a money anchor). Our logic is that greater visibility makes it easier for the public to learn the government's preferences, and only policy-makers committed to reform want this to happen. Among other things, our analysis provides a rationale for the prevalence of temporary exchange-rate targets in inflation-stabilization programs. Send correspondence to: Chris Canavan Department of Economics Boston College Chestnut Hill, MA 02167 tel: (617) 552-3689 fax: (617) 552-2308 e-mail: [email protected] † We are grateful to seminar participants at New York University and the NBER and to Carlos Vegh and Jim Anderson for their useful comments. All errors are ours. An earlier version of this paper was presented at the 1996 American Economic Association Annual Meetings. †† Assistant Professor, Department of Economics, Boston College. ††† Assistant Professor, Department of Economics, UCLA and Chair, Department of Economics, Univeridad de San Andres.