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Price-level targeting rules and financial shocks: The case of Canada

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  • Dib, Ali
  • Mendicino, Caterina
  • Zhang, Yahong

Abstract

How important are the benefits of low price-level uncertainty in the presence of financial shocks? This paper explores the desirability of price-level path targeting in a small open economy with credit frictions à la Bernanke et al. (1999). The model features credit flows and exogenous shocks that originated in both domestic and international credit markets. Financial shocks, exacerbating the distortion generated by the debt-deflation channel, provide a rational for an interest-rate response to the price-level. Indeed, a price-level targeting rule reduces the trade-off between the nominal debt distortion and the inefficiency generated by nominal price stickiness. The policy implications are based on social welfare evaluations. Parameter's uncertainty does not significantly affect the main results.

Suggested Citation

  • Dib, Ali & Mendicino, Caterina & Zhang, Yahong, 2013. "Price-level targeting rules and financial shocks: The case of Canada," Economic Modelling, Elsevier, vol. 30(C), pages 941-953.
  • Handle: RePEc:eee:ecmode:v:30:y:2013:i:c:p:941-953
    DOI: 10.1016/j.econmod.2012.09.038
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    Cited by:

    1. Bailliu, Jeannine & Meh, Cesaire & Zhang, Yahong, 2015. "Macroprudential rules and monetary policy when financial frictions matter," Economic Modelling, Elsevier, vol. 50(C), pages 148-161.
    2. Caterina Mendicino & Yahong Zhang, 2016. "Risk Shocks in a Small Open Economy," Working Papers 1602, University of Windsor, Department of Economics.
    3. Michael Hatcher & Patrick Minford, 2016. "Stabilisation Policy, Rational Expectations And Price-Level Versus Inflation Targeting: A Survey," Journal of Economic Surveys, Wiley Blackwell, vol. 30(2), pages 327-355, April.
    4. Hatcher, Michael & Minford, Patrick, 2014. "Stabilization policy, rational expectations and price-level versus infl‡ation targeting: a survey," CEPR Discussion Papers 9820, C.E.P.R. Discussion Papers.

    More about this item

    Keywords

    Welfare analysis; Interest-rate rules; Financial frictions; Optimal monetary policy;

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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