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Monetary policy and inflationary shocks under imperfect credibility

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  • Darracq Pariès, Matthieu
  • Moyen, Stéphane

Abstract

In this note, we quantify the deterioration of achievable stabilization outcomes when monetary policy operates under imperfect credibility and weak anchoring of long-term expectations. Within a medium-scale Dynamic Stochastic General Equilibrium (DSGE) model, we introduce, through a simple signal extraction problem, an imperfect knowledge configuration in which price and wage setters wrongly have doubts about the determination of the central bank to maintain a fixed long-term inflation objective in the face of inflationary shocks. The magnitude of private sector learning has been calibrated to match the volatility of US inflation expectations at long horizons. We find that the costs of maintaining a given inflation volatility under weak credibility could amount to 0.25 percentage point (pp) of output gap standard deviation.

Suggested Citation

  • Darracq Pariès, Matthieu & Moyen, Stéphane, 2012. "Monetary policy and inflationary shocks under imperfect credibility," Economics Letters, Elsevier, vol. 116(3), pages 571-574.
  • Handle: RePEc:eee:ecolet:v:116:y:2012:i:3:p:571-574
    DOI: 10.1016/j.econlet.2012.05.052
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    References listed on IDEAS

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    1. Meredith J. Beechey & Benjamin K. Johannsen & Andrew T. Levin, 2011. "Are Long-Run Inflation Expectations Anchored More Firmly in the Euro Area Than in the United States?," American Economic Journal: Macroeconomics, American Economic Association, vol. 3(2), pages 104-129, April.
    2. Erceg, Christopher J. & Levin, Andrew T., 2003. "Imperfect credibility and inflation persistence," Journal of Monetary Economics, Elsevier, vol. 50(4), pages 915-944, May.
    3. Frank Smets & Rafael Wouters, 2007. "Shocks and Frictions in US Business Cycles: A Bayesian DSGE Approach," American Economic Review, American Economic Association, vol. 97(3), pages 586-606, June.
    4. Benati, Luca, 2008. "Investigating inflation persistence across monetary regimes," Working Paper Series 851, European Central Bank.
    5. Luca Benati, 2008. "Investigating Inflation Persistence Across Monetary Regimes," The Quarterly Journal of Economics, Oxford University Press, vol. 123(3), pages 1005-1060.
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    Cited by:

    1. Avadanei, Andreea, 2011. "Implicații ale politicii monetare unice în susținerea integrării financiare europene
      [The implications of single monetary policy in sustaining European financial integration]
      ," MPRA Paper 29147, University Library of Munich, Germany.
    2. Michael U. Krause & Stéphane Moyen, 2016. "Public Debt and Changing Inflation Targets," American Economic Journal: Macroeconomics, American Economic Association, vol. 8(4), pages 142-176, October.

    More about this item

    Keywords

    Monetary policy; Imperfect credibility; Signal extraction;

    JEL classification:

    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

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