The Structure of inflation, information and labour markets: Implications for monetary policy
AbstractThe paper gives a simplified version of a typical dynamic stochastic open economy general equilibrium models used to analyze optimal monetary policy. Then it outlines the chief modifications when dualism in labour and in consumption is introduced to adapt the model to a small open emerging market such as India. The implications of specific labour markets, and the structure of Indian inflation and its measurement are examined. Simulations give the welfare effects of different types of inflation targeting. Flexible CPI inflation targeting (CIT) without lags works best, especially if the economy is more open. But volatile terms of trade make the supply curve even steeper than in a small open economy despite specific labour markets and higher labour supply elasticity. Exchange rate intervention limits the volatility of the terms of trade and improves outcomes, making the supply curve flatter. As long as such intervention is required, domestic inflation targeting (DIT) continues to be more robust and effective. The welfare losses from the lags in CPI, which prevent the implementation of CIT, are low as long as the dualistic structure dominates. As the economy becomes more open, however, the loss from not being able to use CIT rises. The lags in CPI therefore need to be reduced, making its future use possible.
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Bibliographic InfoPaper provided by Indira Gandhi Institute of Development Research, Mumbai, India in its series Indira Gandhi Institute of Development Research, Mumbai Working Papers with number 2008-010.
Length: 24 pages
Date of creation: May 2008
Date of revision:
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More information through EDIRC
small open emerging market; optimal monetary policy; dualistic labour markets; inflation; measurement lags; specific labour markets;
Other versions of this item:
- Ashima Goyal, 2008. "The Structure of Inflation, Information and Labour Markets - Implications for monetary policy," Macroeconomics Working Papers 22378, East Asian Bureau of Economic Research.
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
- F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-02-22 (All new papers)
- NEP-CBA-2009-02-22 (Central Banking)
- NEP-CWA-2009-02-22 (Central & Western Asia)
- NEP-MAC-2009-02-22 (Macroeconomics)
- NEP-MON-2009-02-22 (Monetary Economics)
- NEP-OPM-2009-02-22 (Open Economy Macroeconomic)
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