Targeting Nominal Income Growth or Inflation?

Within a simple New Keynesian model emphasizing forward-looking behaviour of private agents, I evaluate optimal nominal income growth targeting versus optimal inflation targeting. When the economy under consideration is mainly subject to shocks that do not involve monetary policy trade-offs for society, inflation targeting is preferable. Otherwise, nominal income growth targeting may be superior because it induces inertial interest rate behaviour that improves the inflation-output gap trade-off. Somewhat paradoxically, inflation targeting is relatively less favourable the more society cares for inflation, and the more persistent are the effects of inflation-generating shocks.

[1]  A. Blinder.  Central Banking in Theory and Practice , 1998 .

[2]  P. Levine,et al.  Rules, Reputation and Macroeconomic Policy Coordination , 1993 .

[3]  John B. Taylor.  Discretion versus policy rules in practice , 1993 .

[4]  J. Galí,et al.  Inflation Dynamics: A Structural Econometric Analysis , 1999 .

[5]  J. Driffíll.  The Consistency of Optimal Policy in Stochastic Rational Expectations Models , 1986 .

[6]  F. Smets.  What Horizon for Price Stability , 2000, SSRN Electronic Journal.

[7]  M. King.  Changes in UK monetary policy: Rules and discretion in practice , 1997 .

[8]  R. King,et al.  The New Neoclassical Synthesis and the Role of Monetary Policy , 1997, NBER Macroeconomics Annual.

[9]  Carl E. Walsh,et al.  Monetary Theory and Policy , 1998 .

[10]  B. Mccallum.  Two Fallacies Concerning Central Bank Independence , 1995 .

[11]  Lars E. O. Svensson.  Why Exchange Rate Bands? Monetary Independence in Spite of Fixed Exchange Rates , 1992 .

[12]  Finn E. Kydland,et al.  Rules Rather than Discretion: The Inconsistency of Optimal Plans , 1977, Journal of Political Economy.

[13]  A. Alesina.  Macroeconomic Policy in a Two-Party System as a Repeated Game , 1987 .

[14]  R. Barro,et al.  A Positive Theory of Monetary Policy in a Natural Rate Model , 1981, Journal of Political Economy.

[15]  R. Hall,et al.  Nominal Income Targeting , 1993 .

[16]  Lars E. O. Svensson.  Optimal Inflation Targets, 'Conservative' Central Banks, and Linear Inflation Contracts , 1995 .

[17]  G. Calvo.  Staggered prices in a utility-maximizing framework , 1983 .

[18]  John M. Roberts,et al.  New Keynesian Economics and the Phillips Curve , 1995 .

[19]  Sticky price and limited participation models of money: A comparison , 1997 .

[20]  J. Galí,et al.  The Science of Monetary Policy: A New Keynesian Perspective , 1999 .

[21]  R. King,et al.  Inflation Targeting in a St. Louis Model of the 21st Century , 1996 .

[22]  Marvin Goodfriend.  Interest Rates and the Conduct of Monetary Policy , 1991 .

[23]  P. Söderlind.  Solution and Estimation of RE Macromodels with Optimal Policy , 1998 .

[24]  R. Barro,et al.  Central Bank Preferences and Macroeconomic Equilibrium , 1997 .

[25]  David Vestin.  Price-level Targeting versus Inflation Targeting in a Forward-looking Model , 2000 .

[26]  Julio J. Rotemberg,et al.  An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy , 1997, NBER Macroeconomics Annual.

[27]  C. Bean.  TARGETING NOMINAL INCOME: AN APPRAISAL* , 1983 .

[28]  Ben S. Bernanke,et al.  Inflation Forecasts and Monetary Policy , 1997 .

[29]  B. Mccallum,et al.  Nominal Income Targeting in an Open-Economy Optimizing Model , 1999 .

[30]  Kenneth Rogoff,et al.  The Optimal Degree of Commitment to an Intermediate Monetary Target''Quarterly Journal of Economics , 1985 .

[31]  Glenn D. Rudebusch,et al.  Policy Rules for Inflation Targeting , 1998 .

[32]  Susanne Lohmann,et al.  Optimal Commitment in Monetary Policy: Credibility versus Flexibility , 1992 .

[33]  Jeffrey C. Fuhrer.  PRELIMINARY DRAFT Comments Welcome , 1995 .

[34]  C. Walsh,et al.  Speed Limit Policies: The Output Gap and Optimal Monetary Policy , 2001, SSRN Electronic Journal.

[35]  Glenn D. Rudebusch.  Assessing Nominal Income Rules for Monetary Policy with Model and Data Uncertainty , 2000, SSRN Electronic Journal.

[36]  Tack Yun,et al.  Nominal price rigidity, money supply endogeneity, and business cycles , 1996 .

[37]  H. Jensen.  Credibility of Optimal Monetary Delegation , 1998 .

[38]  Robert G. King,et al.  State-Dependent Pricing and the General Equilibrium Dynamics of Money and Output , 1999 .

[39]  R. Lucas.  Econometric policy evaluation: A critique , 1976 .

[40]  M. Woodford.  Optimal Monetary Policy Inertia , 1999 .