Flexibility in inflation targeting, financial markets and macroeconomic stability

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Flexibility in inflation targeting, financial markets and macroeconomic stability

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Dai, Meixing
Sidiropoulos, Moïse

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Abstract

Using an aggregate dynamic macroeconomic model, we study the macroeconomic and financial stability under flexible inflation-targeting regime associated with intermediate monetary growth target. Central banks, using the inflation target as a communication and strong nominal anchoring device, should also take into account the movements of asset prices in their optimal interest rate rule. They might react to changes in asset prices without introducing asset prices into the description of their policy objectives. We show that, the more flexible the inflation-targeting framework of monetary policy is, the more likely the monetary authorities are able to stabilise the economy around the long-term equilibrium. Therefore, achieving price stability under inflation-targeting regime with low flexibility can generate dynamic instability and will not be able to stabilise effectively the fluctuations of output and inflation. A commitment to a long run growth rate of money supply corresponding to the inflation target can reinforce the credibility of the central bank and the role of inflation target as strong and credible nominal anchor for private inflation expectations and allows the system to be more stability prone.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 13864.

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Date of creation: May 2005
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Handle: RePEc:pra:mprapa:13864

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Find related papers by JEL classification:
E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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Svensson, Lars E. O., 2000. "Open-economy inflation targeting," Journal of International Economics, Elsevier, vol. 50(1), pages 155-183, February. [Downloadable!] (restricted)
Other versions:
- Lars E. O. Svensson, 2000. "Open-Economy Inflation Targeting," NBER Working Papers 6545, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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Lars E.O. Svensson, 2000. "The First Year of the Eurosystem: Inflation Targeting or Not?," NBER Working Papers 7598, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
Other versions:
- Svensson, Lars, 2000. "The first Year of the Eurosystem: Inflation Targeting or Not?," Seminar Papers 681, Stockholm University, Institute for International Economic Studies. [Downloadable!]
- Svensson, Lars E O, 2000. "The First Year Of The Eurosystem: Inflation Targeting Or Not?," CEPR Discussion Papers 2380, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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Other versions:
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Other versions:
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