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Optimal Monetary Policy Rules under Inflation Range Targeting

In: Monetary Policy: Rules and Transmission Mechanisms

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  • Juan Pablo Medina

    (Banco Central de Chile)

  • Rodrigo O. Valdés

    (International Monetary Fund)

Abstract

We calculate and compare optimal monetary policy (MP) rules for a simple economy under alternative central bank objective (loss) functions. We compare both soft- and hard-edges range (zone) targeting as well as asymmetric loss-functions to a quadratic loss case. The latter represents the standard loss-function for point inflation targeting. The results show that MP aggressiveness under range targeting critically depends on how hard are the edges of this range. If a range is thought of as a thick point objective, MP is always active (there are no inaction zones), although it is less aggressive against inflation and output shocks if range edges are sufficiently soft (vis-à-vis a point target). Harder edges makes MP more aggressive even when the economy is close to the central part of the range. Finally, an asymmetric loss-function for inflation that penalizes positive deviations relatively more generates a bias against output.

(This abstract was borrowed from another version of this item.)

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Bibliographic Info

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This chapter was published in: Norman Loayza & Klaus Schmidt-Hebbel & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Series Editor) (ed.) Monetary Policy: Rules and Transmission Mechanisms, , chapter 5, pages 095-116, 2002.

This item is provided by Central Bank of Chile in its series Central Banking, Analysis, and Economic Policies Book Series with number v04c05pp095-116.

Handle: RePEc:chb:bcchsb:v04c05pp095-116

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  1. Michael Woodford, 1999. "Optimal Monetary Policy Inertia," NBER Working Papers 7261, National Bureau of Economic Research, Inc.
  2. Svensson, L-E-O, 1996. "Inflation Forecast Targeting : Implementaing and Monitoring Inflation Targets," Papers 615, Stockholm - International Economic Studies.
  3. Woodford, Michael, 1999. "Optimal monetary policy inertia," CFS Working Paper Series 1999/09, Center for Financial Studies (CFS).
  4. Frederic S. Mishkin & Adam S. Posen, 1998. "Inflation Targeting: Lessons from Four Countries," NBER Working Papers 6126, National Bureau of Economic Research, Inc.
  5. Kenneth L. Judd, 1998. "Numerical Methods in Economics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262100711.
  6. Laurence Ball, 1998. "Policy Rules for Open Economies," RBA Research Discussion Papers rdp9806, Reserve Bank of Australia.
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Cited by:
  1. Sebastian Edwards, 2006. "The Relationship Between Exchange Rates and Inflation Targeting Revisited," NBER Working Papers 12163, National Bureau of Economic Research, Inc.
  2. Pablo Gonzalez & Mauricio Tejada, 2006. "No linealidades en la regla de política monetaria del Banco Central de Chile: una evidencia empírica," Revista de Analisis Economico – Economic Analysis Review, Ilades-Georgetown University, Universidad Alberto Hurtado/School of Economics and Bussines, vol. 21(1), pages 81-115, July.
  3. Morón, Eduardo & Winkelried, Diego, 2002. "Reglas de política monetaria para economías financieramente vulnerables," Revista Estudios Económicos, Banco Central de Reserva del Perú, issue 8, pages 49-76.
  4. Felipe Morandé, 2001. "A Decade of Inflation Targeting in Chile: Developments, Lessons, and Challenges," Working Papers Central Bank of Chile 115, Central Bank of Chile.
  5. Felipe Morandé L. & Klaus Schmidt-Hebbel D., 2000. "Alternative monetary schemes: a positive evaluation for the chilean peso," Journal Economía Chilena (The Chilean Economy), Central Bank of Chile, vol. 3(1), pages 57-84, April.
  6. Juan Pablo Medina & Rodrigo Valdés, 2000. "Optimal Monetary Policy Rules when the Current Account Matters," Working Papers Central Bank of Chile 77, Central Bank of Chile.
  7. Pablo S. García & Luis Oscar Herrera & Rodrigo Valdés, 2001. "New Frontiers for Monetary Policy in Chile," Working Papers Central Bank of Chile 125, Central Bank of Chile.

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