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Inflation Targeting, Asset Prices, and Financial Imbalances: Conceptualizing the Debate

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  • Piti Disyatat

    (Bank of Thailand)

Abstract

This paper attempts to conceptualize the debate regarding the role of asset prices and perceived financial imbalances in the formation of monetary policy from the perspective of theoretically optimal policy responses. While much of the disagreement can be reconciled within the framework of flexible inflation targeting, defined as a commitment to a targeting rule, preemptive policy actions against the build-up of financial imbalances cannot be motivated within such a framework without modification either to the targeting rule or the underlying model. Given standard forecasting models, such actions are shown to be operationally equivalent to targeting financial imbalances explicitly in the central bank loss function.

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File URL: http://www.bot.or.th/Thai/EconomicConditions/Publication/DiscusPaper/doclip_discussion/dp022005piti_thai.pdf
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Bibliographic Info

Paper provided by Economic Research Department, Bank of Thailand in its series Working Papers with number 2005-09.

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Length: 36 pages
Date of creation: Jan 2005
Date of revision:
Handle: RePEc:bth:wpaper:2005-09

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Keywords: inflation targeting; asset prices; financial imbalances; policy horizon;

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References

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  1. Rudebusch, G.D. & Svensson, L.E.O., 1998. "Policy Rules for Inflation Targeting," Papers 637, Stockholm - International Economic Studies.
  2. Stephen G. Cecchetti & Hans Genberg & Sushil Wadhwani, 2002. "Asset Prices in a Flexible Inflation Targeting Framework," NBER Working Papers 8970, National Bureau of Economic Research, Inc.
  3. Lars E O Svensson, 1996. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," Bank of England working papers 56, Bank of England.
  4. Lars E.O. Svensson, 2002. "Monetary Policy and Real Stabilization," Working Papers 119, Princeton University, Department of Economics, Center for Economic Policy Studies..
  5. Laurence Ball, 1997. "Efficient rules for monetary policy," Reserve Bank of New Zealand Discussion Paper Series G97/3, Reserve Bank of New Zealand.
  6. Lars E.O. Svensson & Michael Woodford, 2004. "Implementing Optimal Policy through Inflation-Forecast Targeting," NBER Chapters, in: The Inflation-Targeting Debate, pages 19-92 National Bureau of Economic Research, Inc.
  7. Andrew J. Filardo, 2001. "Should monetary policy respond to asset price bubbles? : some experimental results," Research Working Paper RWP 01-04, Federal Reserve Bank of Kansas City.
  8. Gruen, David & Plumb, Michael & Stone, Andrew, 2005. "How Should Monetary Policy Respond to Asset-Price Bubbles?," MPRA Paper 833, University Library of Munich, Germany.
  9. Bordo, Michael D & Jeanne, Olivier, 2002. "Monetary Policy and Asset Prices: Does 'Benign Neglect' Make Sense?," International Finance, Wiley Blackwell, vol. 5(2), pages 139-64, Summer.
  10. Claudio E. V. Borio & Philip Lowe, 2004. "Securing sustainable price stability: should credit come back from the wilderness?," BIS Working Papers 157, Bank for International Settlements.
  11. Svensson, Lars E O, 2004. "Optimal Policy with Low-Probability Extreme Events," CEPR Discussion Papers 4218, C.E.P.R. Discussion Papers.
  12. Detken, Carsten & Smets, Frank, 2004. "Asset price booms and monetary policy," Working Paper Series 0364, European Central Bank.
  13. Charles Bean, 2003. "Asset Prices, Financial Imbalances and Monetary Policy: Are Inflation Targets Enough?," RBA Annual Conference Volume, in: Anthony Richards & Tim Robinson (ed.), Asset Prices and Monetary Policy Reserve Bank of Australia.
  14. Michael Woodford, 2004. "Inflation targeting and optimal monetary policy," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 15-42.
  15. Ben S. Bernanke & Mark Gertler, 2001. "Should Central Banks Respond to Movements in Asset Prices?," American Economic Review, American Economic Association, vol. 91(2), pages 253-257, May.
  16. Philip Lowe & Claudio Borio, 2002. "Asset prices, financial and monetary stability: exploring the nexus," BIS Working Papers 114, Bank for International Settlements.
  17. Borio, Claudio, 2006. "Monetary and financial stability: Here to stay?," Journal of Banking & Finance, Elsevier, vol. 30(12), pages 3407-3414, December.
  18. Nicoletta Batini & Edward Nelson, 2000. "Optimal horizons for inflation targeting," Bank of England working papers 119, Bank of England.
  19. William R. White & Claudio E. V. Borio, 2004. "Whither monetary and financial stability? the implications of evolving policy regimes," BIS Working Papers 147, Bank for International Settlements.
  20. Claudio Borio & William English & Andrew Filardo, 2003. "A tale of two perspectives: old or new challenges for monetary policy?," BIS Papers chapters, in: Bank for International Settlements (ed.), Monetary policy in a changing environment, volume 19, pages 1-59 Bank for International Settlements.
  21. Lars E.O. Svensson, 2002. "What Is Wrong with Taylor Rules? Using Judgment in Monetary Policy through Targeting Rules," Working Papers 118, Princeton University, Department of Economics, Center for Economic Policy Studies..
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