Working Paper: CEPR ID: DP4073
Authors: Yunus Aksoy; Athanasios Orphanides; David Small; Volker Wieland; David Wilcox
Abstract: This Paper explores the quantitative implications of an approach to monetary policy that gained prominence in the United States during the 1990s. Proponents of this approach recommend that, when inflation is moderate but still above the long-run objective, the central bank should not move immediately to fight inflation, but rather wait for exogenous circumstances ? such as favourable supply shocks and unforeseen recessions ? to deliver the desired reduction in inflation. While waiting for such circumstances the central bank should counteract any incipient increases in inflation. This approach has come to be known as ?the opportunistic approach to disinflation?. The implied policy rule is non-linear and path-dependent. This Paper compares the behaviour of inflation and output under opportunistic and conventional linear policy. Using stochastic simulations of a small-scale rational expectations model, we study the cost and time required to achieve a given disinflation, as well as the stochastic steady-state distributions of inflation and output under opportunistic versus linear policy rules.
Keywords: disinflation; inflation targeting; interest rates; monetary policy; policy rules
JEL Codes: E31; E52; E58; E61
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| opportunistic approach to disinflation (E31) | lower output losses (H21) |
| opportunistic approach to disinflation (E31) | effective disinflation (E31) |
| opportunistic approach to disinflation (E31) | nonlinear and path-dependent response to inflation deviations (E31) |
| variance of exogenous shocks (C22) | speed of disinflation under the opportunistic approach (E31) |
| conventional approach (B50) | larger cumulative output gaps (E23) |
| opportunistic approach (B53) | frequency of reaching inflation targets (E52) |