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Speed Limit Policies versus Inflation Targeting: A Free Lunch?

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Abstract

Inflation targeting is currently popular with central banks. Is this popularity justified? I investigate this question by comparing a speed limit policy and inflation targeting with a Lucas-type Phillips curve capturing output gap persistence. If the output gap is at least moderately persistent, a speed limit policy can: (1) partly eliminate the state-contingent inflation bias, and (2) reduce inflation variability at no output gap variability cost.

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Bibliographic Info

Paper provided by Cardiff University, Cardiff Business School, Economics Section in its series Cardiff Economics Working Papers with number E2008/20.

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Length: 13 pages
Date of creation: Sep 2008
Date of revision:
Handle: RePEc:cdf:wpaper:2008/20

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Keywords: inflation targeting; speed limit policy; inflation bias; discretion; stabilisation;

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  1. Athanasios Orphanides, 1998. "Monetary policy rules based on real-time data," Finance and Economics Discussion Series 1998-03, Board of Governors of the Federal Reserve System (U.S.).
  2. Le, Vo Phuong Mai & Gillman, Max & Minford, Patrick, 2007. "An Endogenous Taylor Condition in an Endogenous Growth Monetary Policy Model," Cardiff Economics Working Papers E2007/29, Cardiff University, Cardiff Business School, Economics Section.
  3. Carl E. Walsh, 2003. "Minding the speed limit," FRBSF Economic Letter, Federal Reserve Bank of San Francisco, issue may30.
  4. Svensson, Lars E O, 1995. "Optimal Inflation Targets, 'Conservative' Central Banks, and Linear Inflation Contracts," CEPR Discussion Papers 1249, C.E.P.R. Discussion Papers.
  5. Carl Walsh, 2001. "Speed Limit Policies: The Output Gap and Optimal Monetary Policy," CESifo Working Paper Series 609, CESifo Group Munich.
  6. D. A. Peel & I. Paya & I. Venetis, 2004. "Estimates of US monetary policy rules with allowance for changes in the output gap," Applied Economics Letters, Taylor & Francis Journals, vol. 11(10), pages 601-605.
  7. Robert Dittmar & William T. Gavin & Finn Kydland, 1999. "The inflation-output variability tradeoff and price-level targets," Review, Federal Reserve Bank of St. Louis, issue Jan, pages 23-32.
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