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Should Central Banks Adjust Their Target Horizons in Response to House-Price Bubbles?

  • Meenakshi Basant Roi
  • Rhys R. Mendes

The authors investigate the implications of house-price bubbles for the optimal inflation-target horizon using a dynamic general-equilibrium model with credit frictions, house-price bubbles, and small open-economy features. They find that, given the distribution of shocks and inflation persistence over the past 25 years, the optimal target horizon for Canada tends to be at the lower end of the six- to eight-quarter range that has characterized the Bank of Canada's policy since the inception of the inflation-targeting regime. The authors' results also suggest that it may be appropriate to take a longer view of the inflation-target horizon when the economy faces a houseprice bubble.

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File URL: http://www.bankofcanada.ca/en/res/dp/2007/dp07-4.pdf
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Paper provided by Bank of Canada in its series Discussion Papers with number 07-4.

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Length: 43 pages
Date of creation: 2007
Date of revision:
Handle: RePEc:bca:bocadp:07-4
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Web page: http://www.bank-banque-canada.ca/

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  1. Blanchard, Olivier Jean, 1979. "Speculative bubbles, crashes and rational expectations," Economics Letters, Elsevier, vol. 3(4), pages 387-389.
  2. Ben Bernanke & Mark Gertler, 1999. "Monetary policy and asset price volatility," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 77-128.
  3. Christopher J. Erceg & Dale W. Henderson & Andrew T. Levin, 1999. "Optimal monetary policy with staggered wage and price contracts," International Finance Discussion Papers 640, Board of Governors of the Federal Reserve System (U.S.).
  4. Woodford, Michael, 2000. "Optimal Monetary Policy Inertia," Seminar Papers 666, Stockholm University, Institute for International Economic Studies.
  5. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 2001. "Nominal rigidities and the dynamic effects of a shock to monetary policy," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
  6. Batini, Nicoletta & Nelson, Edward, 2000. "Optimal Horizons for Inflation Targeting," Working Paper Series 103, Sveriges Riksbank (Central Bank of Sweden).
  7. Jeffrey C. Fuhrer, 2000. "Habit Formation in Consumption and Its Implications for Monetary-Policy Models," American Economic Review, American Economic Association, vol. 90(3), pages 367-390, June.
  8. Aoki, Kosuke & James Proudman & Gertjan Vlieghe, 2003. "House prices, consumption, and monetary policy: a financial accelerator approach," Royal Economic Society Annual Conference 2003 7, Royal Economic Society.
  9. Stephanie Schmitt-Grohé & Martín Uribe, 2006. "Optimal Inflation Stabilization in a Medium-Scale Macroeconomic Model," Working Papers Central Bank of Chile 410, Central Bank of Chile.
  10. Ali Dib, 2003. "Monetary Policy in Estimated Models of Small Open and Closed Economies," Working Papers 03-27, Bank of Canada.
  11. Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc.
  12. David Gruen & Michael Plumb & Andrew Stone, 2003. "How Should Monetary Policy Respond to Asset-price Bubbles?," RBA Research Discussion Papers rdp2003-11, Reserve Bank of Australia.
  13. Stephen G. Cecchetti & Hans Genberg & Sushil Wadhwani, 2002. "Asset Prices in a Flexible Inflation Targeting Framework," NBER Working Papers 8970, National Bureau of Economic Research, Inc.
  14. Bernanke, B. & Gertler, M. & Gilchrist, S., 1998. "The Financial Accelerator in a Quantitative Business Cycle Framework," Working Papers 98-03, C.V. Starr Center for Applied Economics, New York University.
  15. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
  16. Jean-Philippe Cayen & Amy Corbett & Patrick Perrier, 2006. "An Optimized Monetary Policy Rule for ToTEM," Working Papers 06-41, Bank of Canada.
  17. Smets, Frank, 2003. "Maintaining price stability: how long is the medium term?," Journal of Monetary Economics, Elsevier, vol. 50(6), pages 1293-1309, September.
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