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Core Inflation and Monetary Policy

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Author Info

  • Nessén, Marianne

    ()
    (Research Department, Central Bank of Sweden)

  • Söderström, Ulf

    ()
    (Research Department, Central Bank of Sweden)

Abstract

What are the implications of targeting different measures of inflation? We extend a basic theoretical framework of optimal monetary policy under inflation targeting to include several components of CPI inflation ratio, and analyze the implications of using different measures of inflation as target variable — core inflation, CPI excluding interest rates, and headline CPI inflation. Our main results are the following. (i) Barring the interest rate component, temporary shocks to inflation do not affect optimal monetary policy under any regime. (ii) Indirect (second-round) effects of disturbances on goal variables need to be accounted for properly. Simply excluding seemingly temporary disturbances from the reaction function risks leading to inappropriate policy responses. (iii) It may be optimal to respond to changes in one measure of inflation even if the target is defined in terms of another. (iv) The presence of the direct interest rate component in the CPI tends to push optimal monetary policy in an expansionary direction. The net effect, considering also the traditional channel, however, depends on the nature of the initial disturbance.

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Bibliographic Info

Paper provided by Sveriges Riksbank (Central Bank of Sweden) in its series Working Paper Series with number 110.

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Length: 35 pages
Date of creation: 01 Jun 2000
Date of revision:
Publication status: Published in International Finance, 2001, pages 401-439.
Handle: RePEc:hhs:rbnkwp:0110

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Postal: Sveriges Riksbank, SE-103 37 Stockholm, Sweden
Phone: 08 - 787 00 00
Fax: 08-21 05 31
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Web page: http://www.riksbank.com/
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Keywords: Inflation targeting; Underlying inflation; CPI; CPIX;

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References

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  1. Michael F. Bryan & Stephen G. Cecchetti, 1994. "Measuring Core Inflation," NBER Chapters, in: Monetary Policy, pages 195-219 National Bureau of Economic Research, Inc.
  2. Ball, Laurence, 1999. "Efficient Rules for Monetary Policy," International Finance, Wiley Blackwell, vol. 2(1), pages 63-83, April.
  3. Danny Quah & Shaun Vahey, 1995. "Measuring Core Inflation," Bank of England working papers 31, Bank of England.
  4. Michael F. Bryan & Stephen G. Cecchetti & Rodney L. Wiggins II, 1997. "Efficient inflation estimation," Working Paper 9707, Federal Reserve Bank of Cleveland.
  5. Orphanides, Athanasios & Wieland, Volker, 2000. "Inflation zone targeting," European Economic Review, Elsevier, vol. 44(7), pages 1351-1387, June.
  6. Richard Clarida & Jordi Gali & Mark Gertler, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," NBER Working Papers 7147, National Bureau of Economic Research, Inc.
  7. Stephen G. Cecchetti, 1997. "Measuring short-run inflation for central bankers," Review, Federal Reserve Bank of St. Louis, issue May, pages 143-155.
  8. Nicoletta Batini & Andrew Haldane, 1999. "Forward-Looking Rules for Monetary Policy," NBER Chapters, in: Monetary Policy Rules, pages 157-202 National Bureau of Economic Research, Inc.
  9. Apel, Mikael & Jansson, Per, 1999. "A Parametric Approach for Estimating Core Inflation and Interpreting the Inflation Process," Working Paper Series 80, Sveriges Riksbank (Central Bank of Sweden).
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Cited by:
  1. Gust, Christopher & Leduc, Sylvain & Sheets, Nathan, 2009. "The adjustment of global external balances: Does partial exchange-rate pass-through to trade prices matter?," Journal of International Economics, Elsevier, vol. 79(2), pages 173-185, November.
  2. Berg, Claes & Jansson, Per & Vredin, Anders, 2004. "How Useful are Simple Rules for Monetary Policy? The Swedish Experience," Working Paper Series 169, Sveriges Riksbank (Central Bank of Sweden).
  3. Jamie Armour, 2006. "An Evaluation of Core Inflation Measures," Working Papers 06-10, Bank of Canada.
  4. Dillén, Hans, 2002. "Inflation Targeting and the Dynamics of the Transmission Mechanism," Working Paper Series 141, Sveriges Riksbank (Central Bank of Sweden), revised 01 Jul 2004.
  5. Jeffery D. Amato & Andrew Filardo & Gabriele Galati & Goetz von Peter & Feng Zhu, 2005. "Research on exchange rates and monetary policy: an overview," BIS Working Papers 178, Bank for International Settlements.
  6. Michael Krause & Wolfgang Lemke, 2006. "Optimal Monetary Policy Response to Distortionary Tax Changes," Computing in Economics and Finance 2006 306, Society for Computational Economics.
  7. Virginie Traclet, 2004. "Monetary and Fiscal Policies in Canada: Some Interesting Principles for EMU?," Working Papers 04-28, Bank of Canada.

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