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Inflation Targeting and Its Impact on the Nature of the Money Supply and the Financial Imbalances

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  • Tomáš Munzi
  • Petr Hlaváč

Abstract

This paper provides a theoretical framework for a thesis that the transition to the inflation targeting regime, either explicit or implicit, may be one of the causes of the long-term latent accumulations of the financial and structural imbalances, materializing much later and with more dire consequences. Due to the long-term systematic manipulation of interest rates, within the operational framework of the stabilization of consumer prices and the output gap, as well as of anti-deflationary fundamentalism, the economy can transform itself into a kind of "black box", gradually and over time causing an "escape" of credit and monetary aggregates. Money supply tends to be more endogenous and elastic, changing the causality within a link between the money supply and its effective economic materialization, both in production processes of the real economy as well as in banking and financial services. Thereby, the economy lacks a needful defensive mechanism that would pull the overheating economy back through more exogenous and inelastic money supply, automatically adjusting market interest rates. In the empirical part we employed VECM tests to show that the money supply was exogenous before the implicit adoption of inflation targeting in the USA (1985), but endogenous after it.

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Bibliographic Info

Article provided by University of Economics, Prague in its journal Politická ekonomie.

Volume (Year): 2011 (2011)
Issue (Month): 4 ()
Pages: 435-453

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Handle: RePEc:prg:jnlpol:v:2011:y:2011:i:4:id:798:p:435-453

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Related research

Keywords: VECM; monetary policy; inflation targeting; financial imbalances; endogenous money supply; asset-price bubbles;

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References

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Citations

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Cited by:
  1. Katerina Arnostova & Jozef Barunik & Jan Filacek & Michal Franta & David Havrlant & Roman Horvath & Filip Novotny & Marie Rakova & Lubos Ruzicka & Branislav Saxa & Katerina Smidkova & Peter Toth, 2012. "Macroeconomic Forecasting: Methods, Accuracy and Coordination," Occasional Publications - Edited Volumes, Czech National Bank, Research Department, edition 1, volume 10, number rb10/1 edited by Jan Babecky, August.
  2. Jan Babecky & Alena Bicakova & Alexis Derviz & Tomas Havranek & Roman Horvath & Lubos Komarek & Zlatuse Komarkova & Jakub Mateju & Ke Pang & Renata Pasalicova & Zuzana Prelcova & Marie Rakova & Pierre, 2011. "Macro-Financial Linkages: Theory and Applications," Occasional Publications - Edited Volumes, Czech National Bank, Research Department, edition 2, volume 9, number rb09/2 edited by Jan Babecky, August.

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