Dealing with time-inconsistency: Inflation targeting vs. exchange rate targeting

Jonathan Davis, Ippei Fujiwara and Jiao Wang

CAMA Working Papers from Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University

Abstract: Abandoning an objective function with multiple targets and adopting single mandate can be an effective way for a central bank to overcome the classic time-inconsistency problem. We show that the choice of a particular single mandate depends on an economy’s level of trade openness and the credibility of the central bank. We begin with reduced form empirical results which show that as central banks become less credible they are more likely to adopt a pegged exchange rate, and crucially, the tendency to peg depends on trade openness. Then in a model where the central bank displays “loose commitment” we show that as central bank credibility falls, they are more likely to adopt either an inflation target or a pegged exchange rate. A relatively closed economy would adopt an inflation target to overcome the time-inconsistency problem, but a highly open economy would prefer an exchange rate peg.

Keywords: Time-inconsistency; Commitment; Inflation target; Exchange rate peg; Tie-one’s-hands (search for similar items in EconPapers)
JEL-codes: E30 E50 F40 (search for similar items in EconPapers)
Pages: 35 pages
Date: 2017-08
New Economics Papers: this item is included in nep-cba, nep-mac, nep-mon and nep-opm
References: Add references at CitEc
Citations:

Downloads: (external link)
https://cama.crawford.anu.edu.au/sites/default/fil ... is_fujiwara_wang.pdf (application/pdf)

Related works:
Working Paper: Dealing with Time-Inconsistency: Inflation Targeting vs. Exchange Rate Targeting (2018)
Working Paper: Dealing with Time-inconsistency: Inflation Targeting vs. Exchange Rate Targeting (2017)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:een:camaaa:2017-54

Access Statistics for this paper

More papers in CAMA Working Papers from Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University Contact information at EDIRC.
Bibliographic data for series maintained by Cama Admin ().