The Effect of Monetary Policy Design under Inflation Targeting
In this paper I aim to contribute to the empirical literature on inflation targeting by constructing an index of a monetary policy design. The index measures how close central banks’ institutional characteristics are to that of an inflation targeting regime; irrespective of this regime being de juré adopted or not. It is then used to investigate whether the “intensity”; not just the existence of this new regime matters in explaining cross country variation in the sacrifice ratio.
There exist some attempts in the literature that detect the design features associated with explicit targeters and that question whether this policy mattered for their macroeconomic performance. However, these studies account for the existence of this regime simply through a dummy variable thereby obscuring the differences among de juré targeters. Additionally, these countries are mostly compared to a group of industrialized countries.
In this study I use the most comprehensive data set of 92 developed and developing countries based on the data of the survey by the Central Bank of England. At first stage, relevant indicators from this survey are selected based on the guidance of the several acknowledged definitions of this new regime. Secondly, several indices of monetary policy design are constructed using judgmental weights. These indices are then added to a regression explaining the main determinants of the sacrifice ratio in the late 1990s and early 2000s.
It is found that when the whole group of inflation targeting central banks compared to the OECD countries, the interaction of the indices with a dummy variable for the inflation targeting appears statistically significant as opposed to the inflation targeting dummy alone. Results are maintained for the case of all inflation targeters versus the non-targeting OECD countries and against the full remaining sample.
Keywords: Inflation Targeting, Monetary Policy Design, Sacrifice Ratio
Ph.D. Student, Economics Department, Rutgers University
I also obtained an MSc degree at the Kotholieke Universiteit Leuven, where I developed an interest in currency crises and investigated the underlying features of the Turkish Lira crises in 2000 in the framework of a first generation versus second generation approach.