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A Simple Model for Inflation Targeting in Brazil

Author

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  • Paulo Springer de Freitas
  • Marcelo Kfoury Muinhos

Abstract

Based on a 6 equation model by Haldane and Battini (1999), we estimated a Phillips and an IS equations for Brazil after the Real Plan, in order to study the transmission mechanism of the monetary policy. The results show that interest rate affects output gap with a lag of one quarter and output is positively related to inflation with a one lag only. The devaluation of the nominal exchange rate has also a contemporaneous effect on inflation. We also made stochastic simulations in order to depict the inflation and output gap volatility loci under alternative Taylor-type rules and under an optimal rule, which minimizes a loss function that depends on a weighted average of inflation and output gap variances. The stochastic simulation showed that when compared to the variance in inflation, output gap variance appears to be more sensitive to the weights given in the loss function. It also showed that optimization procedures longer than 6 periods are inefficient and the most efficient frontier horizons are set within the range of 2 to 4 periods. Finally, sub-optimal but simple rules, like Taylor type rules can perform as well as the optimal ones, depending on the parameters chosen and on the preferences of the Central Bank.

Suggested Citation

  • Paulo Springer de Freitas & Marcelo Kfoury Muinhos, 2001. "A Simple Model for Inflation Targeting in Brazil," Working Papers Series 18, Central Bank of Brazil, Research Department.
  • Handle: RePEc:bcb:wpaper:18
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    File URL: http://www.bcb.gov.br/pec/wps/ingl/wps18.pdf
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    Cited by:

    1. Moron, Eduardo & Winkelried, Diego, 2005. "Monetary policy rules for financially vulnerable economies," Journal of Development Economics, Elsevier, vol. 76(1), pages 23-51, February.
    2. Adrián Armas & Francisco Grippa, 2005. "Fijación de metas inflacionarias en una economía dolarizada: la experiencia de Perú," Research Department Publications 4424, Inter-American Development Bank, Research Department.
    3. Guillermo Ortiz, 2002. "Monetary policy in a changing economic environment : the Latin American experience," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 207-239.
    4. Javier Gómez Pineda, 2004. "Inflation Targeting, Sudden Stops and the Cost of Fear of Floating," Borradores de Economia 276, Banco de la Republica de Colombia.
    5. Adrián Armas & Francisco Grippa, 2005. "Targeting Inflation in a Dollarized Economy: The Peruvian Experience," IDB Publications (Working Papers) 1925, Inter-American Development Bank.
    6. Javier Gómez, 2004. "Inflation Targeting and Sudden Stops," BORRADORES DE ECONOMIA 002854, BANCO DE LA REPÚBLICA.
    7. Adrián Armas & Francisco Grippa, 2005. "Targeting Inflation in a Dollarized Economy: The Peruvian Experience," Research Department Publications 4423, Inter-American Development Bank, Research Department.
    8. Adrián Armas & Francisco Grippa, 2008. "Metas de inflación en una economía dolarizada: La experiencia del Perú," Revista de Análisis del BCB, Banco Central de Bolivia, vol. 10(1), pages 7-44, December.
    9. Guillermo Ortiz, 2002. "Central bank perspectives on stabilization policy," Economic Review, Federal Reserve Bank of Kansas City, issue Q IV, pages 37-68.

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