Working Paper: CEPR ID: DP2341
Authors: Henrik Jensen
Abstract: 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.
Keywords: nominal income growth targeting; inflation targeting; monetary policy; interest rate inertia
JEL Codes: E42; E52; E58
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| inflation targeting (E31) | favorable outcomes (P17) |
| nominal income growth targeting (O42) | inertial interest rate behavior (E43) |
| inertial interest rate behavior (E43) | stabilize inflation (E63) |
| nominal income growth targeting (O42) | mitigate adverse impacts of inflation shocks (E31) |
| inflation targeting (E31) | societal welfare alignment (I38) |
| nominal income growth targeting (O42) | superior in inflation-output gap tradeoffs (E31) |