Inflation Targets and the Zero Lower Bound in a Behavioural Macroeconomic Model

Paul De Grauwe; Yuemei Ji

doi:10.1111/ecca.12261

In Search of an Appropriate Lower Bound. The Zero Lower Bound vs. the Positive Lower Bound under Discretion and Commitment

German Economic Review ◽

10.1111/geer.12203 ◽

2019 ◽

Vol 20 (4) ◽

pp. e1028-e1053

Author(s):

Piotr Ciżkowicz ◽

Andrzej Rzońca ◽

Andrzej Torój

Keyword(s):

Side Effects ◽

Lower Bound ◽

Output Growth ◽

New Keynesian ◽

Zero Lower Bound ◽

Slow Potential ◽

Keynesian Model ◽

High Inflation ◽

Inflation Targets ◽

Potential Output Growth

Abstract Using a standard New Keynesian model, we show that moderate side effects of zero lower bound (ZLB) policy suffice for positive lower bound (PLB) policy to pay off in terms of welfare, especially when central banks fail to commit. For given side effects of the ZLB, as the shock that makes the ZLB bind becomes larger and more persistent, the dominance of PLB policy over ZLB policy becomes more likely. The findings hold for flexible and rigid economies with both fast and slow potential output growth and low and high inflation targets.

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The Macroeconomics of Trend Inflation

Journal of Economic Literature ◽

10.1257/jel.52.3.679 ◽

2014 ◽

Vol 52 (3) ◽

pp. 679-739 ◽

Cited By ~ 85

Author(s):

Guido Ascari ◽

Argia M. Sbordone

Keyword(s):

Monetary Policy ◽

Lower Bound ◽

New Keynesian ◽

Inflation Expectations ◽

Positive Trend ◽

Zero Lower Bound ◽

Keynesian Model ◽

Long Run ◽

Trend Inflation ◽

Inflation Targets

Most macroeconomic models for monetary policy analysis are approximated around a zero inflation steady state, but most central banks target an inflation rate of about 2 percent. Many economists have recently proposed even higher inflation targets to reduce the incidence of the zero lower bound constraint on monetary policy. In this survey, we show that the conduct of monetary policy should be analyzed by appropriately accounting for the positive trend inflation targeted by policymakers. We first review empirical research on the evolution and dynamics of U.S. trend inflation and some proposed new measures to assess the volatility and persistence of trend-based inflation gaps. We then construct a Generalized New Keynesian model that accounts for a positive trend inflation. In this model, an increase in trend inflation is associated with a more volatile and unstable economy and tends to destabilize inflation expectations. This analysis offers a note of caution regarding recent proposals to address the existing zero lower bound problem by raising the long-run inflation target. (JEL E12, E31, E32, E52, E58)

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The Optimal Inflation Rate in New Keynesian Models: Should Central Banks Raise Their Inflation Targets in Light of the Zero Lower Bound?

The Review of Economic Studies ◽

10.1093/restud/rds013 ◽

2012 ◽

Vol 79 (4) ◽

pp. 1371-1406 ◽

Cited By ~ 120

Author(s):

O. Coibion ◽

Y. Gorodnichenko ◽

J. Wieland

Keyword(s):

Lower Bound ◽

Inflation Rate ◽

Central Banks ◽

New Keynesian ◽

Zero Lower Bound ◽

New Keynesian Models ◽

Inflation Targets

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Inflation Target and its Impact on Macroeconomy in the Zero Lower Bound Environment: the case of the Czech economy

Review of Economic Perspectives ◽

10.1515/revecp-2016-0001 ◽

2016 ◽

Vol 16 (1) ◽

pp. 3-16 ◽

Cited By ~ 3

Author(s):

Miroslav Hloušek

Keyword(s):

Lower Bound ◽

Interest Rates ◽

Stochastic Simulation ◽

Zero Lower Bound ◽

Dsge Model ◽

Inflation Target ◽

Target Setting ◽

Target Values ◽

Inflation Targets

Abstract This paper uses a stochastic simulation of a DSGE model of the Czech economy to study the macroeconomic consequences of inflation target setting when interest rates are constrained by the zero lower bound. The distortions of this constraint depend non-linearly on the inflation target. For an inflation target of two percent the costs are negligible, but they increase steeply with lower target values. The largest impact is on the average values of output, consumption and investment; inflation is only slightly influenced. The volatility of all the variables considered increases significantly, but only for inflation targets that are close to zero. An inflation target of four percent does not bring additional benefits either in terms of lower volatility or in terms of higher average values.

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