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Money Stock Targeting, Base Drift and Price-Level Predictability: Lessons From the U.K. Experience

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  • Michael D. Bordo
  • Ehsan U. Choudhri
  • Anna J. Schwartz

Abstract

It is controversial whether money stock targeting without base drift (i.e. following a trend-stationary growth path) makes the price level more predictable in the presence of permanent shocks to money demand. Developing a procedure that does not run into the Lucas critique, and applying this procedure to the case of the U.K., the paper finds that the variance of the trend inflation rate in the U.K. would have been reduced by more than one half if the Bank of England had not allowed base drift.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2825.

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Date of creation: Jan 1989
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Publication status: published as Journal of Monetary Economics, Vol. 25, No. 21, pp. 253-272, (March 1990).
Handle: RePEc:nbr:nberwo:2825

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  1. Robert G. King & Charles I. Plosser & James H. Stock & Mark W. Watson, 1987. "Stochastic Trends and Economic Fluctuations," NBER Working Papers 2229, National Bureau of Economic Research, Inc.
  2. Friedman, Milton, 1982. "Monetary Policy: Theory and Practice," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 14(1), pages 98-118, February.
  3. Lucas, Robert Jr, 1976. "Econometric policy evaluation: A critique," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 1(1), pages 19-46, January.
  4. Walsh, Carl E, 1986. "In Defense of Base Drift," American Economic Review, American Economic Association, vol. 76(4), pages 692-700, September.
  5. Bennett T. McCallum, 1982. "Price Level Determinacy with an Interest Rate Policy Rule and Rational Expectations," NBER Working Papers 0559, National Bureau of Economic Research, Inc.
  6. Alfred Broaddus & Marvin Goodfriend, 1985. "Base drift and the longer run growth of M1 : experience from a decade of monetary targeting," Working Paper 85-01, Federal Reserve Bank of Richmond.
  7. Cochrane, John H, 1988. "How Big Is the Random Walk in GNP?," Journal of Political Economy, University of Chicago Press, vol. 96(5), pages 893-920, October.
  8. Marvin Goodfriend, 1987. "Interest rate smoothing and price level trend-stationarity," Working Paper 87-03, Federal Reserve Bank of Richmond.
  9. Huizinga, John, 1987. "An empirical investigation of the long-run behavior of real exchange rates," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 27(1), pages 149-214, January.
  10. William Poole, 1976. "Interpreting the Fed's Monetary Targets," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 7(1), pages 247-260.
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