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Inflation Targeting in an Emerging Market: the Case of Korea

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Author Info

  • Michael S. Hanson

    ()
    (Department of Economics, Wesleyan University)

  • Kwanghee Nam

    ()
    (School of Economics, Kookmin University, Jeongneung-dong)

Abstract

To evaluate the effectiveness of targeting monetary policy strategies in a small open economy, we develop a dynamic optimizing model calibrated to recent Korean data. We then explore the consequences of alternative specifications of the loss function for society and the central bank, with particular focus on exchange rate volatility. Policy simulations include variations on inflation targeting, nominal income growth targeting and exchange rate targeting. Our results indicate that inflation targeting remains the most preferred policy regime, even when an explicit motive for exchange rate smoothing is introduced. In this case, the optimal inflation targeting and nominal income growth targeting policies are characterized by a “conservative” central bank that places greater weight on both the primary target variable and on the exchange rate than in society’s objective function. However, the optimal policy reacts to changes in degree of exchange rate pass-though in a non-linear fashion, complicating the robustness of inflation targeting recommendations for emerging markets.

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Bibliographic Info

Paper provided by Wesleyan University, Department of Economics in its series Wesleyan Economics Working Papers with number 2005-007.

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Length: 22 pages
Date of creation: Sep 2005
Date of revision:
Handle: RePEc:wes:weswpa:2005-007

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Keywords: Korean economy; inflation targeting; optimal monetary policy; small open economy;

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Cited by:
  1. Nadia Saleem, 2010. "Adopting Inflation Targeting in Pakistan: An Empirical Analysis," Lahore Journal of Economics, Department of Economics, The Lahore School of Economics, vol. 15(2), pages 51-76, Jul-Dec.

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