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The Inflation Forecast and the Loss Function

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  • Svensson, Lars E.O.

Abstract

This Paper argues that inflation-targeting central banks should announce explicit loss function with numerical relative weights on output-gap stabilization and use and announce optimal time-varying instrument-rate paths and corresponding inflation and output-gap forecasts. Simple voting procedures for forming the Monetary Policy Committee?s aggregate loss function and time-varying instrument-rate paths are suggested. Announcing an explicit loss function improves the transparency of inflation targeting and eliminates some misunderstandings of the meaning of ?flexible? inflation targeting. Using time-varying instrument-rate paths avoids a number of inconsistencies and other problems inherently associated with constant-interest-rate forecasts.

Suggested Citation

  • Svensson, Lars E.O., 2002. "The Inflation Forecast and the Loss Function," CEPR Discussion Papers 3365, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:3365
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    References listed on IDEAS

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    18. Lars E. O. Svensson, 2003. "What Is Wrong with Taylor Rules? Using Judgment in Monetary Policy through Targeting Rules," Journal of Economic Literature, American Economic Association, vol. 41(2), pages 426-477, June.
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    21. Michael Woodford, 1999. "Optimal monetary policy inertia," Proceedings, Federal Reserve Bank of San Francisco.
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    Citations

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    Cited by:

    1. Daniel L. Thornton, 2003. "Monetary policy transparency: transparent about what?," Manchester School, University of Manchester, vol. 71(5), pages 478-497, September.
    2. Lars E. O. Svensson, 2002. "Monetary policy and real stabilization," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 261-312.
    3. Surico, Paolo, 2003. "How does the ECB target inflation?," Working Paper Series 229, European Central Bank.
    4. repec:mpc:wpaper:14 is not listed on IDEAS
    5. Laxton, Douglas & Pesenti, Paolo & Juillard, Michel & Karam, Philippe, 2006. "Welfare-based monetary policy rules in an estimated DSGE model of the US economy," Working Paper Series 613, European Central Bank.
    6. Lars E. O. Svensson, 2005. "Targeting versus instrument rules for monetary policy: what is wrong with McCallum and Nelson?," Review, Federal Reserve Bank of St. Louis, vol. 87(Sep), pages 613-626.
    7. Lars E. O. Svensson, 2003. "Monetary policy and learning," Economic Review, Federal Reserve Bank of Atlanta, vol. 88(Q3), pages 11-16.
    8. Juan Paez-Farrell, 2009. "Timeless perspective vs discretionary policymaking when the degree of inflation persistence is unknown," Discussion Paper Series 2009_14, Department of Economics, Loughborough University, revised Sep 2009.
    9. Koppány, Krisztián, 2007. "Likviditási csapda és deflációs spirál egy inflációs célt követő modellben - a hitelesség szerepe [A liquidity trap and deflationary spiral in a model for pursuing an inflation target - the role of," Közgazdasági Szemle (Economic Review - monthly of the Hungarian Academy of Sciences), Közgazdasági Szemle Alapítvány (Economic Review Foundation), vol. 0(11), pages 974-1003.
    10. Lars E.O. Svensson, 2004. "Targeting Rules vs. Instrument Rules for Monetary Policy: What is Wrong with McCallum and Nelson?," NBER Working Papers 10747, National Bureau of Economic Research, Inc.
    11. P ez-Farrell, Juan, 2007. "Optimal Monetary Policy Under Inflation Targeting: Is Zero the Optimal Perception of Inflation Inertia?," Cardiff Economics Working Papers E2007/17, Cardiff University, Cardiff Business School, Economics Section.
    12. Ortiz, Marco, 2014. "Fat-Tailed Shocks and the Central Bank Reaction," Working Papers 2014-002, Banco Central de Reserva del Perú.
    13. Jérôme Héricourt, 2004. "And if one size fit all after all? A counterfactual examination of the ECB monetary policy under Duisenberg presidency," Cahiers de la Maison des Sciences Economiques bla04004a, Université Panthéon-Sorbonne (Paris 1), revised Nov 2005.

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    Keywords

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    JEL classification:

    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • 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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