OPTIMAL MONETARY POLICY WITH THE STICKY INFORMATION MODEL OF PRICE ADJUSTMENT: INFLATION OR PRICE‐LEVEL TARGETING?

I investigate the optimal monetary policy in a New Keynesian macroeconomic framework with the sticky information model of price adjustment. The model is solved for optimal policy, and welfare implications of three alternative monetary policy regimes under this optimal policy are compared when there is a cost‐push shock to the economy. These monetary policy regimes are the unconstrained policy, price‐level targeting and inflation targeting regimes. The results illustrate that optimal policy depends on the degree of price stickiness and the persistence of the shock. Inflation targeting emerges as the optimal policy if prices are flexible enough or the shock is persistent enough. However, the unconstrained policy or price‐level targeting might be preferable to inflation targeting if prices are not very flexible and the shock is not very persistent. The results also show that as prices become more flexible, the welfare loss usually gets bigger.     

中国实行通货膨胀目标制的可行性分析

通货膨胀目标制是一种以保持低而稳定的通货膨胀为首要目标的货币政策框架。本研究参照IMF提出的相关指标,并考虑到中国作为转型国家的经济特征,从中国当前经济运行中控制一般物价水平的必要性、经济结构的完善性、金融市场和银行体系的健全性、中央银行的独立性、货币政策的透明度以及央行准确预测通货膨胀的技术等方面考察了中国实行通货膨胀目标制的可行性,得出中国已经初步具备实施该货币制度的条件。并提出更彻底的制度改革将会确保中国成功实施通货膨胀目标制,从而使得宏观经济运行处于稳定的价格水平因而更有效率。     

Does money have a role in the inflation process? Evidence from Australia

Inflation, defined as a sustained increase in the price level, is considered a monetary phenomenon, as it can be explained within the framework of money‐demand and money‐supply relationships. In the extant literature, money growth is shown to remain causally related to inflation across countries and over time, irrespective of the exchange rate regime and stability of the money‐demand function. Nevertheless, emerging literature suggests a diminishing role of money in the conduct of monetary policy for price stability, especially under inflation targeting. Monetary policy in Australia under inflation targeting since 1993 is an example of policy that denies a relationship between money growth and inflation. The proposition that money does not matter insofar as inflation is concerned seems odd in both theory and the best‐practice monetary policy for price stability. This paper uses annual data for the period 1970–2017 and quarterly data for the period 1970Q1–2015Q1. It deploys both the Johansen cointegration approach and the autoregressive distributed lag (ARDL) cointegration approach to investigate for Australia whether money, real output, prices and the exchange rate (non‐stationary variables) maintain the long‐run price‐level relationship that the classical monetary theory suggests in the presence of such stationary variables as the domestic and foreign interest rates. As expected, the empirical findings for Australia are consistent with the classical long‐run price‐level relationship between money, real output, prices and the exchange rate. The error‐correction model of inflation confirms the presence of a cointegral relationship among these variables; it also provides strong evidence of a short‐run causal relationship between money supply growth and inflation. On the basis of a priori theoretical predictions and empirical findings, the paper draws the conclusion that the monetary aggregate and its growth rate matter insofar as inflation is concerned, irrespective of the strategy of monetary policy for price stability.     

POLICY MAKING IN DEFLATIONARY JAPAN*

The prolonged recession and deflation in Japan since 1990 presents novel problems to economists. The recession was certainly triggered by real factors such as the slowing down of capacity growth. At the same time, it was aggravated by the monetary contraction in the early 1990s and the inability of the monetary policy to cope with deflation, a fortiori a monetary phenomenon. With the zero‐bound interest rate, traditional monetary policy is of limited effect, and unconventional monetary policy, such as inflation (or price‐level) targeting, should be employed instead, in order to change the persistent deflationary expectations in the public.     

Contemporary Monetary Policy in China: An Empirical Assessment

This paper focuses on monetary policy in China. A set of different specifications for the monetary policy reaction function are empirically evaluated using monthly data for 1998–2014. Overall, the performance of the estimated policy rules is surprisingly good. Chinese monetary policy displays countercyclical reactions to inflation and leaning‐against‐the‐wind behaviour. The paper shows a notable increase in the overall responsiveness of Chinese monetary policy over the course of the estimation period. The central bank interest rate is unresponsive to economic conditions during the earlier years of the sample, but response becomes significant in later years. This finding comports with the view that the monetary policy of the People's Bank of China has come to place greater weight on price‐based instruments. A time‐varying estimation procedure suggests that the two monetary policy objectives are generally assigned to different instruments. The money supply instrument continues to be utilized to control the price level. Since 2008, the interest rate instrument has been mainly used to achieve the targeted output growth.     

Inflation-Plus Targeting at the Reserve Bank of Australia

This article first outlines the dynamics of what appear to be increasingly prevalent cycles of asset price inflation in liberalised financial systems, as well as the difficulties entailed in successful monetary policy responses. The article then analyses the Reserve Bank of Australia's policy responses to recent rises in credit growth and asset price inflation in the property sector. The Bank's responses are characterized in terms of an inflation‐plus targeting framework which has subtly redefined the Bank's approach to inflation targeting to include vaguely defined factors such as mediumterm‘risks’, as well as extending the time frame of such risk assessment. The article explains why, for a variety of reasons, the Bank has been reticent to fully declare its hand.     

Price‐level versus inflation targeting under model uncertainty

It has recently been suggested that price‐level targeting (PLT) may be a superior approach to monetary policy than inflation targeting (IT) due to its ability to automatically influence inflation expectations to stabilize the economy. In this paper, I analyze whether PLT dominates IT if the ability of the central bank to influence expectations is limited by model uncertainty. Specifically, I analyze how the characterization and performance of PLT and IT rules are impacted if private agents form expectations according to a model that deviates from the policy‐maker's reference model. Using robust control to derive robust rules in such a situation, I find that the performance of PLT rules deteriorate faster than that of IT rules as the degree of misspecification increases. Nevertheless, the absolute decline in performance of the PLT rules is relatively small across alternative models that are statistically plausible.     

Time‐Varying Dynamics of the Norwegian Economy

We use time‐varying parameter vector autoregressive models to investigate possible changes in the time‐series properties of key Norwegian macroeconomic variables since the 1980s. Notably, we find that inflation persistence falls during the inflation targeting period, while the volatility of inflation and nominal exchange rates increases. The observed time‐variation in the correlations between the interest rates and the macro variables largely reflects the prevailing monetary policy regimes. An increase in the correlations between oil prices and other macro variables over time is also documented. Using a counterfactual analysis, we discuss the observed time‐varying dynamics of the Norwegian economy in the light of monetary policy and oil price shocks.     

Deficit sustainability and inflation in EMU: An analysis from the Fiscal Theory of the Price Level

Price determination theory typically focuses on the role of monetary policy, while the role of fiscal policy is usually neglected. From a different point of view, the Fiscal Theory of the Price Level takes into account monetary and fiscal policy interactions and assumes that fiscal policy may determine the price level, even if monetary authorities pursue an inflation targeting strategy. In this paper we try to test empirically whether the time path of the government budget in EMU countries would have affected price level determination. Our results point to the sustainability of fiscal policy in all the EMU countries but Finland, although no firm conclusions can be drawn about the prevalence of either monetary or fiscal dominance.     

The Effects of Monetary Policy Shocks in the USA: A Forecast‐Augmented VAR Approach

This paper formulates a forward‐looking monetary policy function for the USA in a structural vector autoregression (VAR) model, by using forecasts of key macroeconomic variables, in addition to the ex post realised variables used in a standard VAR. Since this forecast‐augmented VAR (FOAVAR) uses both forecasted and realised variables, and the standard VAR uses only realised variables, the standard VAR is nested in the FOAVAR. I find that the Fed responds to forecasted macroeconomic variables more significantly than realised variables. I also find that the monetary policy shock in the FOAVAR generates impulse responses of variables that are consistent with the predictions of economic theories, while the policy shock in the standard VAR causes a price puzzle: an increase in the price level due to a contractionary policy shock. These results suggest that a monetary policy function identified in a standard VAR, by using only realised macroeconomic variables, may incorrectly represent the Fed's policy function.     

Foreign Money Shocks and the Welfare Performance of Alternative Monetary Policy Regimes*

The welfare properties of monetary policy regimes for a country subject to foreign money shocks are examined in a two‐country sticky‐price model. Money targeting is found to be welfare superior to a fixed exchange rate when the expenditure switching effect of exchange rate changes is relatively weak, but a fixed rate is superior when the expenditure switching effect is strong. However, price targeting is superior to both these regimes for all values of the expenditure switching effect. A welfare‐maximising monetary rule yields lower output and exchange rate volatility than price targeting for a wide range of parameter values.     

How justified is abandoning money in the conduct of monetary policy in Australia on the grounds of instability in the money‐demand function?

The role of money in the design and conduct of monetary policy has reemerged as an important issue in both advanced and developing economies, especially since the 2007 global financial crisis. A growing body of recent literature suggests that the causal relationship between money supply growth and inflation remains intact across countries and over time and that this relation is not conditional on the stability of the money‐demand function or whether money is endogenous or exogenous. Moreover, critical for a rule‐based monetary policy is the presence of a long‐run stable money‐demand function, rather than a short‐run money‐demand model that may exhibit instability for many reasons, including problems with estimating a money‐demand model with high‐frequency data. Provided that a stable money‐demand function exists, it could be useful to establish long‐run equilibrium relations among money, output, prices, and exchange rates, as the classical monetary theory suggests. Within this analytical framework, this paper addresses the question of whether money has any role in the conduct of monetary policy in Australia. The conventional wisdom is that the money‐demand function in Australia has been unstable since the mid‐1980s due to financial deregulation and reforms; this led to a change in the strategy of monetary policy for price stability in the form of inflation targeting that ignores money insofar as inflation and its control are concerned. This paper reports empirical findings for Australia, obtained from a longer quarterly data series over the period 1960Q1–2015Q1, which suggest that instability in the narrow‐money‐demand function in Australia was primarily due to the exclusion of variables which have become important in the deregulated environment since the 1980s. These findings are confirmed by an expanded form of the narrow‐money‐demand function that was found stable over the past two decades, although it experienced multiple structural breaks over the study period. The paper draws the conclusion that abandoning the monetary aggregate as an instrument of monetary policy in Australia, under a rule‐based monetary policy such as inflation targeting, cannot be justified by instability in the money‐demand function or even by lack of a causal link between money supply growth and inflation.     

Welfare effects of monetary policy in an economy with vertical production and trade: An analysis based on the perspective of local currency pricing

By incorporating the factor of firms' asymmetric price setting behavior into the two-country model with vertical production and trade, we analyze how one country's monetary policy affects the welfare of both countries. We show that an expansionary monetary policy has (i) a beggar-thyself effect if the ratio of the non-expanding country's intermediate goods firms that set their export prices in the local currency is significantly low and (ii) a prosper-thy-neighbor effect in our model regardless of the ratio of either country's intermediate goods firms that set their export prices in the local currency.     

Modelling Anti-inflationary Monetary Targeting in Romania

This paper characterises Romania's experience with anti-inflationary monetary targeting over the period 1999–2005 prior to the country's switch to inflation targeting. We uncover the National Bank of Romania's preferences, conditional on an estimated macro-model. We find that Romania's monetary targeting regime can be characterised by a concern for price stability and an additional role for smoothing of the central bank's instrument (base money growth). Exchange rate variability and output gap stability appear not to significantly enter the National Bank of Romania's objective function.     

The impact of Chinese monetary policy shocks on East and South‐East Asia1

We study the effects of Chinese monetary policy shocks on China's major trading partners in East and South‐East Asia by estimating structural vector autoregressive (SVAR) models for six economies in the region. We find that a monetary expansion in Mainland China leads to an increase in real GDP (temporary) and the price level (permanent) in a number of economies in our sample, most notably in Hong Kong and the Philippines. The impact could result from intertemporal substitution present in a general equilibrium framework, which allows for positive domestic impacts of foreign monetary expansions. Our results emphasize the growing importance of China for its neighbouring economies and the significance of Chinese shocks for the design of monetary policy in Asian economies.     

Are speed limit policies robust?

Both price level targeting and speed limit policies have been suggested as alternatives to inflation targeting that may confer benefits when a central bank operates under discretion, even if society’s loss function is specified in terms of inflation volatility. Here we show that price level targeting dominates a speed limit policy under perfect credibility and rational expectations. However, a speed limit policy is more robust than a price level target. Even for small deviations from either rational expectations or perfect credibility, a speed limit policy dominates a price level target.     

住房价格、消费与中国货币政策最优选择:基于异质性房价预期的视角

在异质性房价预期和流动性约束条件下,本文构建了包括家庭消费决策、企业生产决策以及中央银行货币政策决策的理论模型。在此基础上,本文采用混合的RBC-VAR方法和1998年1季度至2010年3季度的数据模拟分析了住房价格、消费和货币政策选择之间的关系。结果表明:预期房价上涨的家庭越多,住房价格波动对消费波动的影响越大;贷款价值比越高,住房价格波动对消费波动的放大效应越强,但经验证据并没有支持这种放大效应;盯住住房价格的货币政策获益很少,其在减少产出波动的同时增加了通货膨胀波动。因此,中国人民银行应遏制房价偏离均衡的上涨,尤其是房价上涨预期,但货币政策不宜盯住住房价格。     

Should a central bank react to food inflation? Evidence from an estimated model for Chile

We examine whether food price shocks are a major source of macroeconomic fluctuations. We estimate a small open economy DSGE model using an alternative Taylor rule applied to Chilean data. The empirical evidence suggests that food inflation played a non-trivial role in shaping Chile's de facto monetary policy actions. Consistent with its commitment to price stability, the central bank increases the policy rate in reaction to food inflation. Despite an immediate monetary policy reaction to a food price shock, the policy rate gradually tapers off. This is due to a second-round effect on non-food inflation propagated by the food price shock. A main finding is that monetary policy that targets headline inflation is welfare improving.     

Macroeconomic policy and aggregate fluctuations in a semi-industrialized open economy: Greece 1951–1980

In this paper we model the effects of macroeconomic policy in a semi-industrialized open economy. Greece is our case, but the model could apply to other similar economies with tightly controlled financial markets and comprehensive foreign exchange restrictions, where both the exchange rate and interest rates are administered prices. The model consists of three equations which determine output, the price level and the trade balance. It is largely non-Keynesian, but, through the real exchange rate, it allows for anticipated monetary policy to affect real output. The model is estimated by FIML and its various restrictions cannot be rejected. A policy simulation suggests that even Friedman's x% money growth rule would ensure greater macroeconomic stability in the 1970s than the monetary policy that was actually followed.     

Re‐vitalizing money demand in the Euro area. Still valid at the zero‐lower bound

The analysis of monetary developments has always been a cornerstone of the ECB's monetary analysis and, thus, of its overall monetary policy strategy. In this respect, money demand models provide a framework for explaining monetary developments and assessing price stability over the medium term. It is a well‐documented fact in the literature that, when interest rates are at the zero‐lower bound, the analysis of money stocks become even more important for monetary policy. Therefore, this paper re‐investigates the stability properties of M3 demand in the euro area in the light of the recent economic crisis. A cointegration analysis is performed over the sample period 1983 Q1 and 2015 Q1 and leads to a well‐identified model comprising real money balances, income, the long‐term interest rate and the own rate of M3 holdings. The specification appears to be robust against the Lucas critique of a policy dependent parameter regime, in the sense that no signs of breaks can be found when interest rates reach the zero‐lower bound. Furthermore, deviations of M3 from its equilibrium level do not point to substantial inflation pressure at the end of the sample. Excess liquidity models turn out to outperform the autoregressive benchmark, as they deliver more accurate CPI inflation forecasts, especially at the longer horizons. The inclusion of unconventional monetary policy measures does not contradict these findings.