Nominal GDP Targeting for Middle-Income Countries

Jeffrey Frankel

Working Paper Series from Harvard University, John F. Kennedy School of Government

Abstract: It has been proposed that central banks should target Nominal GDP (NGDP), as an alternative to targeting the money supply, exchange rate, or inflation. But the proposal appears in the context of the largest advanced economies. In fact NGDP Targeting may be more appropriate for middle-sized middle-income countries. The reason is that such countries are more often subject to large supply shocks and terms of trade shocks. Such unexpected shocks can force the credibility-damaging abandonment of CPI targets or exchange rate targets that had been previously declared. But they do not require the abandonment of a nominal GDP target, which automatically divides an adverse supply shock equally between impacts on inflation and real GDP. The argument can be illustrated in a model where the ultimate objective is minimizing a quadratic loss function in output and inflation but a credible rule is needed in order to prevent an inflationary bias that arises under discretion. A NGDP rule dominates IT unless the Aggregate Supply curve is especially steep or the weight placed on price stability is especially high. Parameters estimated for the cases of India and Kazakhstan suggest that the Aggregate Supply curve is flat enough to satisfy the necessary condition. The general argument applies regardless whether the monetary authorities at a particular time seek credible disinflation, credible reflation, or simply a credible continuation of the recent path.

JEL-codes: E52 F41 (search for similar items in EconPapers)
Date: 2014-07
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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Citations: View citations in EconPapers (15)

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Journal Article: Nominal GDP Targeting for Middle-Income Countries (2014)
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Persistent link: https://EconPapers.repec.org/RePEc:ecl:harjfk:rwp14-033

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