Question

What is meant by 'time inconsistency of discretionary policies'? what is the problem with it? One example of time inconsistency?

Answer 1

The time inconsistency of a discretionary policy arises when the policymakers may decide on announcing a policy which will create certain expectations in the public. The public then make decisions based on these expectations. But in the future, the policymakers might have to implement a different policy which leads to this problem of time inconsistency. The problem that arises is that the government may not be able to achieve their goals because people have already made their decisions based on their expectations. Altering their actions will require some time and therefore the success of the discretionary policy cannot be assured. This basically arises because the policy maker's preferences change over time.

An example of time discretionary policy is when a government sets an expectation that it will never negotiate with terrorists but if the latter hold people hostage, the government might have to negotiate with them.

This problem also arises in the conduct of monetary policy.