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Improving implementation of inflation targeting in New Zealand: an investigation of the Reserve Bank's inflation errors

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I investigate New Zealand's rate of inflation and its deviations from target using two new methods: 1) Rowe's (2002) new way of examining the correlations between inflation deviations from target and indicators. Any significant correlations, whether in a simple or multivariate framework, are interpreted as evidence against optimal policy setting. 2) Cukierman and Gerlach (2003) and Ruge-Murcia's (2001) new inflation bias hypothesis. As a counterpoint to Kydland and Prescott's (1977) and Barro and Gordon's (1983) time inconsistency explanation of inflation bias, Ruge-Murcia, Cukierman and Gerlach take the different view that even if central banks target the natural rate of unemployment or the potential level of output, some inflation bias might still exist if their loss function is asymmetric. I examine the inflation errors from 1982 to 2003 to investigate how information contained in these might be used to improve future inflation targeting in New Zealand.

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Paper provided by Reserve Bank of New Zealand in its series Reserve Bank of New Zealand Discussion Paper Series with number DP 2004/06.

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Length: 54 p.
Date of creation: Jul 2004
Date of revision:
Handle: RePEc:nzb:nzbdps:2004/06

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  1. Nicholas Rowe, 2002. "How to Improve Inflation Targeting at the Bank of Canada," Working Papers 02-23, Bank of Canada.
  2. Alex Cukierman & Anton Muscatelli, 2001. "Do Central Banks have Precautionary Demands for Expansions and for Price Stability?," Working Papers 2002_4, Business School - Economics, University of Glasgow, revised Mar 2002.
  3. McCallum, Bennett T, 1995. "Two Fallacies Concerning Central-Bank Independence," American Economic Review, American Economic Association, vol. 85(2), pages 207-11, May.
  4. Alan S. Blinder, 1999. "Central Banking in Theory and Practice," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262522608, December.
  5. Pagan, Adrian, 1984. "Econometric Issues in the Analysis of Regressions with Generated Regressors," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 25(1), pages 221-47, February.
  6. Peston, Maurice H, 1972. "The Correlation between Targets and Instruments," Economica, London School of Economics and Political Science, vol. 39(156), pages 427-31, November.
  7. Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
  8. Cukierman, Alex & Gerlach, Stefan, 2003. "The Inflation Bias Revisited: Theory and Some International Evidence," CEPR Discussion Papers 3761, C.E.P.R. Discussion Papers.
  9. P. Dorian Owen, 2003. "General-to-Specific Modelling Using PcGets," Journal of Economic Surveys, Wiley Blackwell, vol. 17(4), pages 609-628, 09.
  10. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
  11. Özer Karagedikli & Kirdan Lees, 2004. "Do inflation targeting central banks behave asymmetrically? Evidence from Australia and New Zealand," Reserve Bank of New Zealand Discussion Paper Series DP 2004/02, Reserve Bank of New Zealand.
  12. Lars E O Svensson, 1997. "Inflation targeting in an open economy: strict or flexible inflation targeting?," Reserve Bank of New Zealand Discussion Paper Series G97/8, Reserve Bank of New Zealand.
  13. Sharon McCaw & Satish Ranchhod, 2002. "The Reserve Bank's forecasting performance," Reserve Bank of New Zealand Bulletin, Reserve Bank of New Zealand, vol. 65, December.
  14. W A Razzak, 2001. "Money in the era of inflation targeting," Reserve Bank of New Zealand Discussion Paper Series DP2001/02, Reserve Bank of New Zealand.
  15. Paul Mylonas & Sebastian Schich, 1999. "The Use of Financial Market Indicators by Monetary Authorities," OECD Economics Department Working Papers 223, OECD Publishing.
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