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Inflation Targeting Under Imperfect Policy Credibility

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Author Info
Turgut Kisinbay
Ondra Kamenik
Ali Alichi
Charles Freedman
Marianne Johnson
Kevin Clinton
Huigang Chen
Douglas Laxton

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Abstract

This paper presents a model for Inflation Targeting under imperfect policy credibility. It modifies the conventional model in three ways: an endogenous policy credibility process, by which monetary policy can gain or lose credibility over time; non-linearities in the inflation equation and in the credibility generating process; and an explicit loss function. The model highlights problems associated with the practice of setting a series of rigid near-term inflation targets. Also, unfavorable supply shocks pose a difficult problem: an appropriate response involves an interest rate increase, some loss of output, and a period of increased inflation. A delayed response can result in a prolonged period of stagflation.

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Paper provided by International Monetary Fund in its series IMF Working Papers with number 09/94.

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Length: 30 pages
Date of creation: 28 Apr 2009
Date of revision:
Handle: RePEc:imf:imfwpa:09/94

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Related research
Keywords: Inflation targeting ; Emerging markets ; Monetary policy ; Disinflation ; Demand ; Price increases ; Economic models ;

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This paper has been announced in the following NEP Reports: References listed on IDEAS
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  1. Paul R. Masson, 1997. "The Scope for Inflation Targeting in Developing Countries," IMF Working Papers 97/130, International Monetary Fund.
  2. Peter Isard & Douglas Laxton & Ann-Charlotte Eliasson, 2001. "Inflation Targeting with NAIRU Uncertainty and Endogenous Policy Credibility," IMF Working Papers 01/7, International Monetary Fund. [Downloadable!]
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  3. Svensson, Lars E. O., 1997. "Inflation forecast targeting: Implementing and monitoring inflation targets," European Economic Review, Elsevier, vol. 41(6), pages 1111-1146, June. [Downloadable!] (restricted)
    Other versions:
  4. Andrew T. Levin & Fabio M. Natalucci & Jeremy M. Piger, 2004. "The macroeconomic effects of inflation targeting," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 51-80. [Downloadable!]
  5. Philippe D Karam & Natan P. Epstein & Eyal Argov & Douglas Laxton & David Rose, 2007. "Endogenous Monetary Policy Credibility in a Small Macro Model of Israel," IMF Working Papers 07/207, International Monetary Fund. [Downloadable!]
  6. Orphanides, Athanasios & Wilcox, David W, 2002. "The Opportunistic Approach to Disinflation," International Finance, Blackwell Publishing, vol. 5(1), pages 47-71, Spring. [Downloadable!] (restricted)
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  7. Olivier Blanchard & Jordi Galí, 2007. "Real Wage Rigidities and the New Keynesian Model," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(s1), pages 35-65, 02. [Downloadable!] (restricted)
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  8. Scott Roger & Mark R. Stone, 2005. "On Target? The International Experience with Achieving Inflation Targets," IMF Working Papers 05/163, International Monetary Fund. [Downloadable!]
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This page was last updated on 2009-10-21.

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