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Designing Central Banks for Inflation Stability

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  • Benigno, Pierpaolo

Abstract

Well-designed central banks can uniquely determine a stable inflation rate following either active Taylor's rules or interest-rate pegs. They should receive an initial transfer of capital, hold only risk-free assets, rebate their income to the treasury. This system prevents permanent liquidity traps and inflationary spirals without further need of treasury's support beyond the initial capitalization. Instead, if the central bank engages in purchases of risky securities, fiscal support is required to uniquely back the value of money. Absent treasury's support and with a risky composition of assets, inflationary spirals and deflationary traps can develop due to self-fulfilling expectations or credit events.

Suggested Citation

  • Benigno, Pierpaolo, 2016. "Designing Central Banks for Inflation Stability," CEPR Discussion Papers 11402, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:11402
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    References listed on IDEAS

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    1. John H. Cochrane, 2011. "Determinacy and Identification with Taylor Rules," Journal of Political Economy, University of Chicago Press, vol. 119(3), pages 565-615.
    2. Obstfeld, Maurice & Rogoff, Kenneth, 1983. "Speculative Hyperinflations in Maximizing Models: Can We Rule Them Out?," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 675-687, August.
    3. Del Negro, Marco & Sims, Christopher A., 2015. "When does a central bank׳s balance sheet require fiscal support?," Journal of Monetary Economics, Elsevier, vol. 73(C), pages 1-19.
    4. Schmitt-Grohe, Stephanie & Uribe, Martin, 2000. "Price level determinacy and monetary policy under a balanced-budget requirement," Journal of Monetary Economics, Elsevier, vol. 45(1), pages 211-246, February.
    5. Woodford, Michael, 2001. "Fiscal Requirements for Price Stability," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(3), pages 669-728, August.
    6. Cochrane, John H, 2001. "Long-Term Debt and Optimal Policy in the Fiscal Theory of the Price Level," Econometrica, Econometric Society, vol. 69(1), pages 69-116, January.
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    Cited by:

    1. Donato Masciandaro, 2016. "More than the Human Appendix: Fed Capital and Central Bank Financial Independence," BAFFI CAREFIN Working Papers 1635, BAFFI CAREFIN, Centre for Applied Research on International Markets Banking Finance and Regulation, Universita' Bocconi, Milano, Italy.
    2. Cavallo, Michele & Del Negro, Marco & Frame, W. Scott & Grasing, Jamie & Malin, Benjamin A. & Rosa, Carlo, 2018. "Fiscal Implications of the Federal Reserve's Balance Sheet Normalization," FRB Atlanta Working Paper 2018-7, Federal Reserve Bank of Atlanta.
    3. Donato Masciandaro & Davide Romelli, 2019. "Behavioral Monetary Policymaking: Economics, Political Economy and Psychology," World Scientific Book Chapters,in: Behavioral Finance The Coming of Age, chapter 9, pages 285-329 World Scientific Publishing Co. Pte. Ltd..
    4. Favaretto, Federico & Masciandaro, Donato, 2016. "Doves, hawks and pigeons: Behavioral monetary policy and interest rate inertia," Journal of Financial Stability, Elsevier, vol. 27(C), pages 50-58.

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