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Alternative Targeting Regimes, Transmission Lags, and the Exchange Rate Channel

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  • Jean-Paul Lam

Abstract

Using a closed-economy model, Jensen (2002) and Walsh (2003) have, respectively, shown that a policy regime that optimally targets nominal income growth (NIT) or the change in the output gap (SLT) outperforms a regime that targets inflation, because NIT and SLT induce more inertia in the actions of the central bank, effectively replicating the outcome obtained under precommitment. The author obtains a very different result when the analysis is extended to open-economy models. Flexible CPI-inflation targeting outperforms both SLT and NIT and is the most robust targeting regime. The gains from targeting CPI inflation are particularly large when the model features transmission lags and/or departures from the uncovered interest parity condition. The author also finds that the stabilization bias inherent in discretionary policy is smaller in an open-economy setting.

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Bibliographic Info

Paper provided by Bank of Canada in its series Working Papers with number 03-39.

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Length: 38 pages
Date of creation: 2003
Date of revision:
Handle: RePEc:bca:bocawp:03-39

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  1. Woodford, M., 1999. "Optimal Monetary Policy Inertia.," Papers, Stockholm - International Economic Studies 666, Stockholm - International Economic Studies.
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Cited by:
  1. Jean-Paul Lam & Florian Pelgrin, 2004. "The Implications of Transmission and Information Lags for the Stabilization Bias and Optimal Delegation," Working Papers, Bank of Canada 04-37, Bank of Canada.
  2. David Longworth, 2003. "Implications of a changing economic structure for the strategy of monetary policy : commentary," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, Federal Reserve Bank of Kansas City, pages 349-360.
  3. Ali, Syed Zahid & Anwar, Sajid, 2011. "Supply-side effects of exchange rates, exchange rate expectations and induced currency depreciation," Economic Modelling, Elsevier, vol. 28(4), pages 1650-1672, July.

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