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Choice of Monetary Policy Instrument under Targeting Regimes in a Simple Stochastic Macro Model

  • Haider Ali

    (Pakistan Institute of Development Economics, Islamabad)

  • Eatzaz Ahmad

    (Quaid-i-Azam University, Islamabad)

Registered author(s):

    This paper analyzes the relative performance of inflation and price-level targeting regimes in an AS-IS-LM framework under alternative policy instruments used by the central bank. Being general in its nature, the results are further used to derive equilibrium values of the important macroeconomic variables under the two targeting regimes for two limiting cases; when LM schedule becomes vertical (Quantity Theory of Money) and when it becomes horizontal (Endogenous Money Hypothesis). Contrary to Svensson’s findings, our results imply a ‘free lunch’ in case of inflation targeting rather than pricelevel targeting. Calibration results for Pakistan also support these theoretical findings and point towards inadequacy of using interest rate, rather than money supply, as a policy instrument both under the inflation and price level targeting regimes.

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    File URL: http://www.pide.org.pk/pdf/Working%20Paper/WorkingPaper-102.pdf
    File Function: First Version, 2014
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    Paper provided by Pakistan Institute of Development Economics in its series PIDE-Working Papers with number 2014:102.

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    Length: 28 pages
    Date of creation: 2014
    Date of revision:
    Handle: RePEc:pid:wpaper:2014:102
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