With inflation and policy interest rates at historically low levels, policymakers show great concern about "downside tail risks" due to a zero lower bound on nominal interest rates. Low probability or tail events, such as sustained deflation or recession, are disruptive for the economy and can be difficult to resolve. This paper shows that price-level targeting mitigates downside tail risks respect to inflation targeting when policy is conducted through a simple interest-rate rule subject to a zero lower bound. Thus, price-level targeting is a more effective policy framework than inflation targeting for the management of downside tail risks in a low-inflation economy. At the same time, the average performance of the economy is not very different if policy implements price-level targeting instead of inflation targeting through a simple interest-rate rule. Price-level targeting may imply less variability of inflation than inflation targeting because policymakers can shape private-sector expectations about future inflation more effectively by targeting directly the price level path rather than inflation.
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
page. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
Publisher Info
Paper provided by Federal Reserve Bank of Kansas City in its series Research Working Paper with number
RWP 08-09.
References listed on IDEAS Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.: