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The Case for a Positive Euro Area Inflation Target: Evidence from France, Germany and Italy

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  • Adam, Klaus
  • Gautier, Erwan
  • Santoro, Sergio
  • Weber, Henning

Abstract

Using the micro price data underlying the Harmonized Index of Consumer Prices, we estimate relative price trends over the product life cycle in France, Germany and Italy. We show that minimizing the welfare consequences of relative price distortions in the presence of these trends requires targeting a significantly positive inflation rate: the steady-state inflation rate jointly maximizing welfare in all three countries ranges between 1.1%-1.7%. The optimal target range for individual countries is 1.1%-2.1% in France, 1.2%-2.0% in Germany and 0.8%-1.0% in Italy. Differences across countries emerge due to systematic differences in the strength of relative price trends. The welfare costs associated with targeting an inflation rate of zero in the Euro Area, as suggested by standard monetary models without relative price trends, amount to 4.5% of consumption in present-value terms.

Suggested Citation

  • Adam, Klaus & Gautier, Erwan & Santoro, Sergio & Weber, Henning, 2021. "The Case for a Positive Euro Area Inflation Target: Evidence from France, Germany and Italy," CEPR Discussion Papers 16828, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:16828
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    2. Consolo, Agostino & Koester, Gerrit & Nickel, Christiane & Porqueddu, Mario & Smets, Frank, 2021. "The need for an inflation buffer in the ECB’s price stability objective – the role of nominal rigidities and inflation differentials," Occasional Paper Series 279, European Central Bank.
    3. Strasser, Georg & Wieland, Elisabeth & Macias, Paweł & Błażejowska, Aneta & Szafranek, Karol & Wittekopf, David & Franke, Jörn & Henkel, Lukas & Osbat, Chiara, 2023. "E-commerce and price setting: evidence from Europe," Occasional Paper Series 320, European Central Bank.
    4. Menz, Jan-Oliver & Wieland, Elisabeth & Mehrhoff, Jens, 2022. "Estimating the impact of quality adjustment on consumer price inflation," Discussion Papers 49/2022, Deutsche Bundesbank.
    5. Alex Oktay, 2022. "Heterogeneity in the exchange rate pass-through to consumer prices: the Swiss franc appreciation of 2015," Swiss Journal of Economics and Statistics, Springer;Swiss Society of Economics and Statistics, vol. 158(1), pages 1-20, December.
    6. Santoro, Sergio & Weber, Henning, 2023. "Micro price heterogeneity and optimal inflation," Occasional Paper Series 322, European Central Bank.
    7. Cecion, Martina & Coenen, Günter & Gerke, Rafael & Le Bihan, Hervé & Motto, Roberto & Aguilar, Pablo & Ajevskis, Viktors & Giesen, Sebastian & Albertazzi, Ugo & Gilbert, Niels & Al-Haschimi, Alexander, 2021. "The ECB’s price stability framework: past experience, and current and future challenges," Occasional Paper Series 269, European Central Bank.
    8. Claudio Borio & Marco Jacopo Lombardi & James Yetman & Egon Zakrajsek, 2023. "The two-regime view of inflation," BIS Papers, Bank for International Settlements, number 133, May.
    9. Fabio Braggion & Felix von Meyerinck & Nic Schaub & Michael Weber, 2024. "The Long-term Effects of Inflation on Inflation Expectations," NBER Working Papers 32160, National Bureau of Economic Research, Inc.
    10. Meshcheryakov, A. & Sukhomlinov, A., 2024. "Considerations regarding inflation target levels," Journal of the New Economic Association, New Economic Association, vol. 62(1), pages 246-254.

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    Keywords

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    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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