Inflation Targeting and the Dynamics of the Transmission Mechanism

Hans Dillén ()
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Hans Dillén: Monetary Policy Department, Central Bank of Sweden, Postal: Sveriges Riksbank, SE-103 37 Stockholm, Sweden

No 141, Working Paper Series from Sveriges Riksbank (Central Bank of Sweden)

Abstract: This paper derives closed-form expressions for optimal monetary policy rules when the central bank can influence inflation directly with a one-period lag as well as a two-period lagged effect via the output gap. It turns out that even a modest one-period inflation effect from monetary policy actions has substantial implications for monetary policy that also seem to be a step towards increased realism. For instance, in models where the central bank only can affect inflation with a two-period lag via the output gap, policy becomes more aggressive and the output gap exhibits a tendency to switch sign frequently. This unrealistic oscillating feature can be avoided by allowing the central bank to influence inflation with a one-period lag. The model also illustrates that the nature of empirical (or reduced-form) Phillips curves may reflect monetary policy and the observation that the Phillips curve in recent years has become flatter can in this model be explained by a more counter-cyclical monetary policy.

Keywords: Inflation targeting; optimal monetary policy; the transmission mechanism (search for similar items in EconPapers)
JEL-codes: E52 E58 (search for similar items in EconPapers)
Pages: 17 pages
Date: 2002-09-01, Revised 2004-07-01
New Economics Papers: this item is included in nep-cba and nep-mon
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