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Optimal monetary policy reaction function in a model with target zones and asymmetric preferences for South Africa

  • Ruthira Naraidoo

    ()

    (Department of Economics, University of Pretoria)

  • Leroi Raputsoane

    (Department of Economics, University of Pretoria)

This paper estimates the optimal monetary authorities’ response to deviations of inflation and output from their target values for South Africa over the inflation targeting era. This is achieved using an empirical framework that allows the central bank’s policy preferences to be zone-like as well as asymmetric. The main findings are that the monetary authorities react in a passive manner when inflation is within the target band and become increasingly aggressive when it deviates from the target band and that they react with the same level of aggressiveness regardless whether inflation overshoots or undershoots the inflation target band, that is, the monetary authorities’ response towards inflation is zone symmetric. The second major finding shows that the monetary authorities’ response to output fluctuations is asymmetric such that they react more aggressively to negative deviations of output from the potential, therefore weighing more business cycle recessions versus expansions.

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Paper provided by University of Pretoria, Department of Economics in its series Working Papers with number 201004.

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Length: 20 pages
Date of creation: Mar 2010
Date of revision:
Handle: RePEc:pre:wpaper:201004
Contact details of provider: Postal: PRETORIA, 0002
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Web page: http://www.up.ac.za/economics

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  1. DOLADO, J.J. & MARIA-DOLORES, R. & RUGE-MURCIA, Francisco J., 2003. "Nonlinear Monetary Policy Rules: Some New Evidence for the U.S," Cahiers de recherche 2003-24, Universite de Montreal, Departement de sciences economiques.
  2. Ruge-Murcia, F.J., 2001. "Inflation Targeting Under Asymmetric Preferences," Cahiers de recherche 2001-04, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
  3. Orphanides, Athanasios & Wieland, Volker, 2000. "Inflation zone targeting," European Economic Review, Elsevier, vol. 44(7), pages 1351-1387, June.
  4. Svensson, Lars E.O., 1998. "Inflation Targeting as a Monetary Policy Rule," Seminar Papers 646, Stockholm University, Institute for International Economic Studies.
  5. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
  6. Surico, Paolo, 2007. "The Fed's monetary policy rule and U.S. inflation: The case of asymmetric preferences," Journal of Economic Dynamics and Control, Elsevier, vol. 31(1), pages 305-324, January.
  7. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "Monetary policy rules and macroeconomic stability: Evidence and some theory," Economics Working Papers 350, Department of Economics and Business, Universitat Pompeu Fabra, revised May 1999.
  8. Paolo Surico, 2007. "The Monetary Policy of the European Central Bank," Scandinavian Journal of Economics, Wiley Blackwell, vol. 109(1), pages 115-135, 03.
  9. Orphanides, Athanasios & Wilcox, David W, 2002. "The Opportunistic Approach to Disinflation," International Finance, Wiley Blackwell, vol. 5(1), pages 47-71, Spring.
  10. Dolado, Juan J. & Maria-Dolores, Ramon & Naveira, Manuel, 2005. "Are monetary-policy reaction functions asymmetric?: The role of nonlinearity in the Phillips curve," European Economic Review, Elsevier, vol. 49(2), pages 485-503, February.
  11. Yun, Tack, 1996. "Nominal price rigidity, money supply endogeneity, and business cycles," Journal of Monetary Economics, Elsevier, vol. 37(2-3), pages 345-370, April.
  12. Ruthira Naraidoo & Rangan Gupta, 2009. "Modelling monetary policy in South Africa: Focus on inflation targeting era using a simple learning rule," Working Papers 200904, University of Pretoria, Department of Economics.
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