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Monetary Institutions, Partisanship, and Inflation Targeting. presented by David Andrew Singer Massachusetts Institute of Technology. co-author: Bumba Mukherjee Princeton/University of Notre Dame. IPES November 18, 2006. Inflation Targeting (IT): A Nominal Anchor for Monetary Policy. - PowerPoint PPT Presentation
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presented byDavid Andrew SingerMassachusetts Institute of
Technology
Monetary Institutions, Partisanship, and Inflation Targeting
co-author:Bumba Mukherjee
Princeton/University of Notre Dame
IPESNovember 18, 2006
2
Inflation Targeting (IT): A Nominal Anchor for Monetary Policy
Numerically specified target for inflation– Public commitment to price stability– Requires transparency and publication of inflation forecasts
Since 1989, 25 countries have adopted IT
The “monetary framework of choice” for LDCs (IMF 2006); Ben Bernanke also an advocate
David Andrew SingerMIT
Table 2: Inflation Targeting Countries (as of 2003)
Country Adoption Date
Country Adoption Date
Australia 1993 Mexico 1995
Brazil 1999 New Zealand
1989
Canada 1991 Norway 2001
Chile 1990 Peru 2002
Colombia 1999 Philippines
2002
Czech Rep. 1997 Poland 1998
Finland 1993 S. Africa 2000
Hungary 2001 Spain 1995
Iceland 2001 Sweden 1993
Israel 1991 Thailand 2000
Korea 1998 U.K. 1992
Source: Truman (2003). The Slovak Republic, Indonesia, and Romaniaadopted IT in 2005. Finland and Spain joined the EMU in 1999 and no longerhave autonomous monetary policies.
4
Research Question
Why do some countries adopt IT, while others do not?
Importance:– Declining popularity of fixed exchange rates– Alternative nominal anchors (e.g., money targets) largely
discredited– Is central bank independence sufficient to fight inflation?
David Andrew SingerMIT
5
Open Economy Monetary Policy Model
Two actors: government and central bank Government’s loss function (based on Barro &
Gordon 1983; Persson & Tabellini 2000)– Inflation vs. output deviation– Our key modification: partisanship (L,R) determines degree
of inflation aversion (θ)
LG 1
2[(y y )2 G
2 ] y 0, G L,R
David Andrew SingerMIT
6
Model (continued)
Central bank’s loss function:– Assume IT as an inflation-fighting option– Innovation: allow central bank’s inflation preferences to vary
as a function of its regulatory mandate Central bank regulators more sensitive to financial
stability, less likely to enact tight monetary policy (Copelovitch and Singer 2006)
λ = 1 if central bank and bank regulator are separated
] ))(())(1[(2
1 22 TGCB yyL
David Andrew SingerMIT
7
Observable Implication
Adoption of IT more likely when right-leaning government and central bank not a regulator
– Compatibility of preferences between government and central bank over inflation
David Andrew SingerMIT
8
Two Empirical Analyses
First analysis: Markov transition model to explain adoption of IT
– Captures the effect of IVs on probability of adopting IT, and conditional probability of maintaining IT
[Second analysis: parametric and non-parametric models to explore impact of IT on inflation]
David Andrew SingerMIT
9
Markov Model: Data and Variables
Sample: 49 countries, 1987-2003 DV: dichotomous (IT=1, 0 otherwise) IVs:
– Central bank mandate (regulator=0, separate=1)– Partisanship– CBI– Polity, veto players– Exch rate regime and variability– Economic controls
interaction
David Andrew SingerMIT
Model 1 Model 2 Model 3
Covariates
GDP Growth variability .035***(.011)
.031***(.012)
.045***(.020)
.040**(.019)
.039*** (.015)
.058***(.014)
Real Interest Rate .050***(.022)
.059***(.021)
.043***(.020)
.057***(.022)
.061***(.022)
.055***(.021)
Nominal Interest rate .068(.074)
-.065(.092)
.073 (.058)
-.062(.049)
.050(.062)
-.069(.070)
Trade Openness .038(.144)
-.071(.088)
.060(.118)
-.075(.073)
.022(.145)
-.058(.087)
REER variability .039*** (.018)
.032***(.010)
.020***(.008)
.024***(.007)
.043***(.012)
.035***(.014)
NEER variability .024(.028)
-.031(.030)
.023(.020)
-.035(.028)
.035(.030)
-.025(.032)
Current Account -.022**(.011)
-.036**(.017)
-.055*(.030)
-.072*(.041)
-.045**(.018)
-.038**(.019)
CBI .030(.071)
.039(.050)
.029(.020)
.033(.042)
.031(.026)
.044(.031)
Partisanship x Separate
.151***(.049)
.138***(.037)
.103***(.036)
.142***(.040)
.132***
(.036)
.114***
(.045)
Partisanship .021*(.012)
.032*(.018)
.034*(.019)
.022*(.013)
.023*(.014)
.024*(.014)
Separate Central Bank .051*(.030)
.045*(.024)
.043*(.027)
.040*(.024)
.041*(0.22)
.055*(.033)
0
0
0
1
1
1
See
pa
per
for
full
reg
ress
ion
tabl
e
11
Findings
Right government + non-regulatory central bank increases likelihood of adopting IT
– When separate CB, one std. dev change in partisanship (toward the right) increases probability by 35%
Additional finding: IT reduces inflation (see paper)
David Andrew SingerMIT