Inflation Targeting Under Imperfect Policy Credibility

International Monetary Fund

No 2009/094, IMF Working Papers from International Monetary Fund

Abstract: This paper presents a model for Inflation Targeting under imperfect policy credibility. It modifies the conventional model in three ways: an endogenous policy credibility process, by which monetary policy can gain or lose credibility over time; non-linearities in the inflation equation and in the credibility generating process; and an explicit loss function. The model highlights problems associated with the practice of setting a series of rigid near-term inflation targets. Also, unfavorable supply shocks pose a difficult problem: an appropriate response involves an interest rate increase, some loss of output, and a period of increased inflation. A delayed response can result in a prolonged period of stagflation.

Keywords: WP; interest rate; central bank; monetary policy (search for similar items in EconPapers)
Pages: 30
Date: 2009-04-01
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Citations: View citations in EconPapers (15)

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