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Monetary policy and commodity price shocks

  • Silke Tober
  • Tobias Zimmermann

This paper analyses the effects of commodity price shocks in a new Keynesian model. The focus is on the central bank's choice of inflation target and the degree of real wage rigidity. It turns out that using core inflation rather than headline inflation is the superior strategy. Targeting expected headline inflation, as practiced by most central banks, is a viable practical alternative to the core inflation target. Simulations illustrate these points. The introduction of real wage rigidity into the model does not change these conclusions. Real wage rigidity does, however, imply second-round effects, making the monetary policy response, the inflation peak and the output drop more pronounced. Although in practice many of the assumptions of the model, such as full information, do not hold, lessons can be drawn for monetary policy. In case of a commodity supply shock, central banks would do well to focus on some measure of core inflation rather than headline inflation so as to reduce the volatility of both inflation and output. A communication strategy that places greater emphasis on underlying and expected inflation could serve to anchor inflation expectations.

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Article provided by Springer in its journal Intereconomics.

Volume (Year): 44 (2009)
Issue (Month): 4 (July)
Pages: 231-237

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Handle: RePEc:spr:intere:v:44:y:2009:i:4:p:231-237
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  1. Ascari, Guido & Merkl, Christian, 2007. "Real Wage Rigidities and the Cost of Disinflations," IZA Discussion Papers 3049, Institute for the Study of Labor (IZA).
  2. Clarida, R. & Gali, J. & Gertler, M., 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Working Papers 99-13, C.V. Starr Center for Applied Economics, New York University.
  3. Robert E. Hall, 2005. "Separating the Business Cycle from Other Economic Fluctuations," NBER Working Papers 11651, National Bureau of Economic Research, Inc.
  4. Lenza, Michele, 2007. "Monetary policy and core inflation," Working Paper Series 0837, European Central Bank.
  5. Andrew Atkeson & Patrick J. Kehoe, 1994. "Models of Energy Use: Putty-Putty versus Putty-Clay," NBER Working Papers 4833, National Bureau of Economic Research, Inc.
  6. Aoki, Kosuke, 2001. "Optimal monetary policy responses to relative-price changes," Journal of Monetary Economics, Elsevier, vol. 48(1), pages 55-80, August.
  7. Romain Duval & Lukas Vogel, 2008. "Oil Price Shocks, Rigidities and the Conduct of Monetary Policy: Some Lessons from a New Keynesian Perspective," OECD Economics Department Working Papers 603, OECD Publishing.
  8. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
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