Time-inconsistency

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Updated: Aug 20, 2021

A policy is time-inconsistent if the policy-maker has an incentive to act in a manner counter to an earlier commitment. For example, a government may announce that it will not tax income from capital in order to encourage increased investment. Once the additional investment has taken place and the capital is installed the government has an incentive to tax capital income to raise revenue. The announced policy is therefore time-inconsistent and the firms should not believe the initial announcement. A policy-maker that has credibility can announce a time-inconsistent policy and will be believed. The incentive to keep to the announcement is driven by a desire to retain the reputation which makes time-inconsistent policies possible. Where the policy authorities have no credibility, a time-consistent policy is the only one available to them; there is no point in making promises that nobody expects to be kept. See also reputational policy.

Reference: Oxford Press Dictonary of Economics, 5th edt.



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James Knight
Editor of Education
James is the Editor of Education for Invezz, where he covers topics from across the financial world, from the stock market, to cryptocurrency, to macroeconomic markets.... read more.