Should Central Banks Target Consumer Prices or the Exchange Rate?
Abstract
In this article we consider two arguments suggesting that monetary authorities in an open economy should target output price inflation and not consumer price inflation. The first suggests that output price inflation corresponds to the distortions caused by price rigidity. The second shows how policy rules involving consumer price inflation can induce instability because of the feedback from interest rates to consumer price inflation via the exchange rate. We examine both arguments in the context of an open economy which is subject to a range of shocks. We show that both arguments remain robust but that there is a case for including a terms of trade or real exchange rate gap term in the authorities' welfare function alongside the output gap and output price inflation. Copyright 2006 Royal Economic Society.Download Info
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Bibliographic Info
Article provided by Royal Economic Society in its journal The Economic Journal.
Volume (Year): 116 (2006)
Issue (Month): 512 (06)
Pages: F208-F231
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Handle: RePEc:ecj:econjl:v:116:y:2006:i:512:p:f208-f231
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Citations
Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.Cited by:
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"Optimal monetary policy with a regime-switching exchange rate in a forward-looking model,"
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2007-09, GEMF - Faculdade de Economia, Universidade de Coimbra.
- Fernando Alexandre & Pedro Bação & John Driffill, 2007. "Optimal monetary policy with a regime-switching exchange rate in a forward-looking model," NIPE Working Papers 26/2007, NIPE - Universidade do Minho.
- Siok Kun, Sek, 2009. "The impacts of economic structures on the performance of simple policy rules in a small open economy," MPRA Paper 25065, University Library of Munich, Germany.
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"When is Monetary Policy All we Need?,"
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- Fabian Eser & Campbell Leith & Simon Wren-Lewis, 2009. "When is Monetary Policy All We Need?," Economics Series Working Papers 430, University of Oxford, Department of Economics.
- Fabian Eser & Campbell Leith & Simon Wren-Lewis, 2009. "When is monetary policy all we need?," Working Papers 2009_18, Business School - Economics, University of Glasgow.
- Carlin, Wendy & Soskice, David, 2010. "A New Keynesian Open Economy Model for Policy Analysis," CEPR Discussion Papers 7979, C.E.P.R. Discussion Papers.
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