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Of nutters and doves

Author Info

  • Roc Armenter
  • Martin Bodenstein

Abstract

We argue that there are conditions such that any inflation targeting regime is preferable to full policy discretion, even if long-run inflation rates are identical across regimes. The key observation is that strict inflation targeting outperforms the discretionary policy response to sufficiently persistent shocks. Under full policy discretion, inflation expectations over the medium term respond to the shock and thereby amplify its impact on output. As a result, little output stabilization is achieved at the cost of large and persistent inflation fluctuations.

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File URL: http://www.federalreserve.gov/pubs/ifdp/2006/885/default.htm
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Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 885.

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Date of creation: 2006
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Handle: RePEc:fip:fedgif:885
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Keywords: Inflation (Finance) ; Anti-inflationary policies ; Monetary policy;

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Find related papers by JEL classification:
  • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
  • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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  1. Stephanie Schmitt-Grohe & Martin Uribe, 2005. "Optimal Inflation Stabilization in a Medium-Scale Macroeconomic Model," NBER Working Papers 11854, National Bureau of Economic Research, Inc.
  2. Frederic S. Mishkin & Niklas J. Westelius, 2006. "Inflation Band Targeting and Optimal Inflation Contracts," NBER Working Papers 12384, National Bureau of Economic Research, Inc.
  3. Lars E.O. Svensson, 1995. "Optimal Inflation Targets, `Conservative' Central Banks, and Linear Inflation Contracts," NBER Working Papers 5251, National Bureau of Economic Research, Inc.
  4. Athanasios Orphanides & John C. Williams, 2006. "Inflation Targeting Under Imperfect Knowledge," Working Papers Central Bank of Chile 398, Central Bank of Chile.
  5. Glenn D. Rudebusch, 2001. "Is The Fed Too Timid? Monetary Policy In An Uncertain World," The Review of Economics and Statistics, MIT Press, vol. 83(2), pages 203-217, May.
  6. Schmitt-Grohe, Stephanie & Uribe, Martin, 2007. "Optimal simple and implementable monetary and fiscal rules," Journal of Monetary Economics, Elsevier, vol. 54(6), pages 1702-1725, September.
  7. Roc Armenter & Martin Bodenstein, 2005. "Does the time inconsistency problem make flexible exchange rates look worse than you think?," Staff Reports 230, Federal Reserve Bank of New York.
  8. Clarida, R. & Gali, J. & Gertler, M., 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Working Papers 99-13, C.V. Starr Center for Applied Economics, New York University.
  9. Lars Svensson & Noah Williams, 2005. "Monetary Policy with Model Uncertainty: Distribution Forecast Targeting," NBER Working Papers 11733, National Bureau of Economic Research, Inc.
  10. M. H. Khalil Timamy, 2005. "Debate," Review of African Political Economy, Taylor & Francis Journals, vol. 32(104-105), pages 383-393, June.
  11. Marc P. Giannoni & Michael Woodford, 2003. "Optimal Inflation Targeting Rules," NBER Working Papers 9939, National Bureau of Economic Research, Inc.
  12. Olivier Jean Blanchard & Jordi Galí, 2005. "Real wage rigidities and the New Keynesian model," Working Papers 05-14, Federal Reserve Bank of Boston.
  13. Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
  14. Stephen G. Cecchetti & Kim, 2004. "Inflation Targeting, Price-Path Targeting, and Output Variability," NBER Chapters, in: The Inflation-Targeting Debate, pages 173-200 National Bureau of Economic Research, Inc.
  15. 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.
  16. Jonsson, Gunnar, 1997. "Monetary politics and unemployment persistence," Journal of Monetary Economics, Elsevier, vol. 39(2), pages 303-325, July.
  17. Levin, Andrew T. & Williams, John C., 2003. "Robust monetary policy with competing reference models," Journal of Monetary Economics, Elsevier, vol. 50(5), pages 945-975, July.
  18. King, Mervyn, 1997. "Changes in UK monetary policy: Rules and discretion in practice," Journal of Monetary Economics, Elsevier, vol. 39(1), pages 81-97, June.
  19. Vestin, David, 2006. "Price-level versus inflation targeting," Journal of Monetary Economics, Elsevier, vol. 53(7), pages 1361-1376, October.
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