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Indeterminacy with inflation-forecast-cased rules in a two-bloc model

We examine the performance of forward-looking inflation-forecast-based rules in open economies. In a New Keynesian two-bloc model, a methodology first employed by Batini and Pearlman (2002) is used to obtain analytically the feedback parameters/horizon pairs associated with unique and stable equilibria. Three key findings emerge: first, indeterminacy occurs for any value of the feedback parameter on inflation if the forecast horizon lies too far into the future. Second, the problem of indeterminacy is intrinsically more serious in the open economy. Third, the problem is compounded further in the open economy when central banks respond to expected consumer, rather than pro- ducer price inflation. JEL Classification: E52, E37, E58

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Volume (Year): (2003)
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Handle: RePEc:fip:fedgpr:y:2003:x:6
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  2. Jess Benhabib & Stephanie Schmitt-Grohe & Martin Uribe, 1998. "Monetary policy and multiple equilibria," Finance and Economics Discussion Series 1998-29, Board of Governors of the Federal Reserve System (U.S.).
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  17. Charles T. Carlstrom & Timothy S. Fuerst, 2001. "Real Indeterminacy in Monetary Models with Nominal Interest Rate Distortions," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 4(4), pages 767-789, October.
  18. Batini, Nicoletta & Nelson, Edward, 2000. "Optimal Horizons for Inflation Targeting," Working Paper Series 103, Sveriges Riksbank (Central Bank of Sweden).
  19. De Fiore, Fiorella & Liu, Zheng, 2002. "Openness and equilibrium determinacy under interest rate rules," Working Paper Series 0173, European Central Bank.
  20. Devereux, Michael B. & Yetman, James, 2002. "Menu costs and the long-run output-inflation trade-off," Economics Letters, Elsevier, vol. 76(1), pages 95-100, June.
  21. Efrem Castelnuovo, 2003. "Taylor Rules and Interest Rate Smoothing in the US and EMU," Macroeconomics 0303002, EconWPA.
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