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Inflation Band Targeting and Optimal Inflation Contracts

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  • FREDERIC S. MISHKIN
  • NIKLAS J. WESTELIUS

Abstract

In this paper we provide a theoretical treatment of how inflation target ranges cope with the time-inconsistency problem arising from incentives for the monetary policymaker to exploit the short-run trade-off between employment and inflation to pursue short-run employment objectives, as in a Barro-Gordon (1983) model. Inflation band targets are able to achieve many of the benefits that arise under practically less attractive solutions such as the conservative central banker and optimal inflation contracts. Our theoretical model also shows how an inflation targeting range should be set and how it should respond to changes in the nature of shocks to the economy. Copyright (c) 2008 The Ohio State University.

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Bibliographic Info

Article provided by Blackwell Publishing in its journal Journal of Money, Credit and Banking.

Volume (Year): 40 (2008)
Issue (Month): 4 (06)
Pages: 557-582

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Handle: RePEc:mcb:jmoncb:v:40:y:2008:i:4:p:557-582

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Web page: http://www.blackwellpublishing.com/journal.asp?ref=0022-2879

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  1. Calvo, Guillermo A, 1978. "On the Time Consistency of Optimal Policy in a Monetary Economy," Econometrica, Econometric Society, vol. 46(6), pages 1411-28, November.
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  9. Susan Athey & Andrew Atkeson & Patrick J. Kehoe, 2005. "The Optimal Degree of Discretion in Monetary Policy," Econometrica, Econometric Society, vol. 73(5), pages 1431-1475, 09.
  10. Orphanides, Athanasios & Wieland, Volker, 1999. "Inflation zone targeting," Working Paper Series 0008, European Central Bank.
  11. Torsten Persson & Guido Tabellini, 2002. "Political Economics: Explaining Economic Policy," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262661314, January.
  12. Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
  13. Walsh, Carl E, 1995. "Optimal Contracts for Central Bankers," American Economic Review, American Economic Association, vol. 85(1), pages 150-67, March.
  14. Alex Cukierman, 1992. "Central Bank Strategy, Credibility, and Independence: Theory and Evidence," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262031981, January.
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  16. Robert Amano & Richard Black & Marcel Kasumovich, 1997. "A Band-Aid Solution to Inflation Targeting," Working Papers 97-11, Bank of Canada.
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Citations

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Cited by:
  1. Alberto Locarno, 2007. "Imperfect Knowledge, Adaptive Learning, and the Bias Against Activist Monetary Policies," International Journal of Central Banking, International Journal of Central Banking, vol. 3(3), pages 47-85, September.
  2. Frederic S. Mishkin, 2005. "How Big a Problem is Too Big to Fail?," NBER Working Papers 11814, National Bureau of Economic Research, Inc.
  3. William Whitesell, 2005. "An inflation goal with multiple reference measures," Finance and Economics Discussion Series 2005-62, Board of Governors of the Federal Reserve System (U.S.).
  4. Bodenstein Martin R. & Armenter Roc, 2009. "Of Nutters and Doves," The B.E. Journal of Macroeconomics, De Gruyter, vol. 9(1), pages 1-22, September.
  5. Frederic S. Mishkin, 2011. "Monetary Policy Strategy: Lessons From The Crisis," Chapters, European Central Bank.
  6. Niklas J. Westelius, 2008. "Inflation Range Targets with Hard Edges," Hunter College Department of Economics Working Papers 423, Hunter College: Department of Economics.
  7. Alpanda, Sami & Honig, Adam, 2007. "Political Monetary Cycles and a New de facto Ranking of Central Bank Independence," MPRA Paper 5898, University Library of Munich, Germany.
  8. Frederic S. Mishkin, 2007. "Will Monetary Policy Become More of a Science?," NBER Working Papers 13566, National Bureau of Economic Research, Inc.
  9. Toshitaka Sekine & Yuki Teranishi, 2008. "Inflation Targeting and Monetary Policy Activism," IMES Discussion Paper Series 08-E-13, Institute for Monetary and Economic Studies, Bank of Japan.
  10. Alexander Bick & Dieter Nautz, 2008. "Inflation Thresholds and Relative Price Variability: Evidence from U.S. Cities," International Journal of Central Banking, International Journal of Central Banking, vol. 4(3), pages 61-76, September.
  11. Canuto, Otaviano & Cavallari, Matheus, 2013. "Monetary policy and macroprudential regulation : whither emerging markets," Policy Research Working Paper Series 6310, The World Bank.
  12. Beechey, Meredith & Österholm, Pär, 2008. "Revisiting the uncertain unit root in GDP and CPI: Testing for non-linear trend reversion," Economics Letters, Elsevier, vol. 100(2), pages 221-223, August.
  13. Meredith Beechey, 2006. "A closer look at the sensitivity puzzle: the sensitivity of expected future short rates and term premia to macroeconomic news," Finance and Economics Discussion Series 2007-06, Board of Governors of the Federal Reserve System (U.S.).

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