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"Good governance" in monetary policy and the negative real effects of inflation targeting in developing economies

  • Gilberto Libanio

    (Cedeplar-UFMG)

This paper analyzes the growth effects of inflation targeting regimes in emerging market economies. In particular, it focuses on the case of three Latin American economies where the inflation targeting framework has been implemented, namely Brazil, Chile and Mexico. It is argued that not only monetary policy is procyclical under inflation targeting, but also that it is likely to react in an asymmetric way to fluctuations in economic activity and exchange rates (too ‘tight’ during recessions, not so ‘loose’ during expansions). Such pattern may generate a downward bias in aggregate demand, with negative long-run real effects on output growth and employment. Our results suggest that monetary policy is procyclical in Brazil and Chile, and countercyclical in Mexico. Also, they suggest that monetary policy has reacted asymmetrically to economic activity in the three countries. The main economic policy implication of this study is that central banks should consider more seriously the effects of monetary policy on output and employment.

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Paper provided by Cedeplar, Universidade Federal de Minas Gerais in its series Textos para Discussão Cedeplar-UFMG with number td277.

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Length: 27 pages
Date of creation: Dec 2005
Date of revision:
Handle: RePEc:cdp:texdis:td277
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  2. Klaus Schmidt-Hebbel & Alejandro M. Werner, 2002. "Inflation Targeting in Brazil, Chile, and Mexico: Performance, Credibility, and the Exchange Rate," ECONOMIA JOURNAL OF THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION, ECONOMIA JOURNAL OF THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION, vol. 0(Spring 20), pages 31-90, January.
  3. Stephen Cecchetti & Michael Ehrmann, 2000. "Does Inflation Targeting Increase Output volatility? An International Comparison of Policy Maker's Preferences and Outcomes," Working Papers Central Bank of Chile 69, Central Bank of Chile.
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  9. André Minella & Paulo Springer de Freitas & Ilan Goldfajn & Marcelo Kfoury Muinhos, 2003. "Inflation Targeting in Brazil: Constructing Credibility Under Exchange Rate Volatility," Anais do XXXI Encontro Nacional de Economia [Proceedings of the 31th Brazilian Economics Meeting] b26, ANPEC - Associação Nacional dos Centros de Pósgraduação em Economia [Brazilian Association of Graduate Programs in Economics].
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  12. Olivier Blanchard, 2004. "Fiscal Dominance and Inflation Targeting: Lessons from Brazil," NBER Working Papers 10389, National Bureau of Economic Research, Inc.
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  18. Christopher P. Ball & Javier Reyes, 2004. "Inflation targeting or fear of floating in disguise: the case of Mexico," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 9(1), pages 49-69.
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  22. Frederic S. Mishkin, 2004. "Can Inflation Targeting Work in Emerging Market Countries?," NBER Working Papers 10646, National Bureau of Economic Research, Inc.
  23. Laurence Ball, 1996. "Disinflation and the NAIRU," NBER Working Papers 5520, National Bureau of Economic Research, Inc.
  24. Arminio Fraga & Ilan Goldfajn & André Minella, 2004. "Inflation Targeting in Emerging Market Economies," NBER Chapters, in: NBER Macroeconomics Annual 2003, Volume 18, pages 365-416 National Bureau of Economic Research, Inc.
  25. Frank Hahn & Robert Solow, 1997. "A Critical Essay on Modern Macroeconomic Theory," MIT Press Books, The MIT Press, edition 1, volume 1, number 026258154x, March.
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  27. Benjamin M. Friedman, 2002. "The Use and Meaning of Words in Central Banking: Inflation Targeting, Credibility, and Transparency," NBER Working Papers 8972, National Bureau of Economic Research, Inc.
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