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Data dependency, inflation projections and interest rate decisions

Author

Listed:
  • Vincenzo Cuciniello

    (Bank of Italy)

  • Giuseppe Ferrero

    (Bank of Italy)

  • Elisa Guglielminetti

    (Bank of Italy)

  • Alessandro Lin

    (Bank of Italy)

Abstract

In 2023, the ECB introduced three criteria – inflation outlook, underlying inflation dynamics, and monetary policy transmission – to guide its data-dependent approach to policy rates. We argue that this shift does not imply a change in the ECB's reaction function to deviations of medium-term inflation from target but rather reflects the use of alternative signals to assess medium-term inflation, a variable that is not directly observable. By integrating multiple indicators, the ECB aimed to enhance its inflation assessment, improving policy decisions in an environment of increased uncertainty. During the 2021-22 inflation surge, forecasts incorporating underlying inflation and monetary policy transmission outperformed staff projections over a one-year horizon. However, in the subsequent disinflation phase, these forecasts overestimated inflation and underperformed relative to staff projections, raising concerns about an overly restrictive monetary policy stance. Our results underscore the importance of placing greater emphasis on medium-term projections when their accuracy is in line with historical regularities.

Suggested Citation

  • Vincenzo Cuciniello & Giuseppe Ferrero & Elisa Guglielminetti & Alessandro Lin, 2025. "Data dependency, inflation projections and interest rate decisions," Questioni di Economia e Finanza (Occasional Papers) 930, Bank of Italy, Economic Research and International Relations Area.
  • Handle: RePEc:bdi:opques:qef_930_25
    as

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    File URL: https://www.bancaditalia.it/pubblicazioni/qef/2025-0930/QEF_930_25.pdf
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    References listed on IDEAS

    as
    1. Leo Krippner, 2020. "A Note of Caution on Shadow Rate Estimates," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 52(4), pages 951-962, June.
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    More about this item

    Keywords

    data dependence; reaction function; underlying inflation; monetary policy transmission;
    All these keywords.

    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E47 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Forecasting and Simulation: Models and Applications
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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