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Choice of Monetary Policy Instrument under Targeting Regimes in a Simple Stochastic Macro Model

Haider Ali () and Eatzaz Ahmad
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Eatzaz Ahmad: Quaid-i-Azam University, Islamabad

No 2014:102, PIDE-Working Papers from Pakistan Institute of Development Economics

Abstract: This paper analyzes the relative performance of inflation and price-level targeting regimes in an AS-IS-LM framework under alternative policy instruments used by the central bank. Being general in its nature, the results are further used to derive equilibrium values of the important macroeconomic variables under the two targeting regimes for two limiting cases; when LM schedule becomes vertical (Quantity Theory of Money) and when it becomes horizontal (Endogenous Money Hypothesis). Contrary to Svensson’s findings, our results imply a ‘free lunch’ in case of inflation targeting rather than pricelevel targeting. Calibration results for Pakistan also support these theoretical findings and point towards inadequacy of using interest rate, rather than money supply, as a policy instrument both under the inflation and price level targeting regimes.

Keywords: Monetary Policy; Inflation Targeting; Endogenous Money Hypothesis; Calibration (search for similar items in EconPapers)
JEL-codes: C63 E12 E31 E52 (search for similar items in EconPapers)
Pages: 28 pages
Date: 2014
New Economics Papers: this item is included in nep-cba, nep-mac and nep-mon
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http://www.pide.org.pk/pdf/Working%20Paper/WorkingPaper-102.pdf First Version, 2014 (application/pdf)

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