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Chapter 17: Q. 9 (page 468)

Why might inflation targeting increase support for the independence of the central bank in conducting monetary policy?

Short Answer

Expert verified

Because of greater transparency in policymaking, increased accountability, and, most importantly, public support, the central bank pursues an inflation-targeting monetary policy on its own.

Step by step solution

01

Concept Introduction

Monetary policy is the central bank's macroeconomic policy. It entails changes in the money supply and interest rate in order to achieve macroeconomic goals such as inflation, output growth, and employment.

02

Explanation

Inflation targeting is a central bank monetary policy in which the rate of inflation is fixed and targeted as its goal, and the fixed rate of inflation is announced to the public.

Because of greater transparency in policymaking, increased accountability, and, most importantly, public support, the central bank pursues an inflation-targeting monetary policy on its own.

The success of well-defined inflation targeting monetary policy would boost public support for central bank's independence and policies.

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Most popular questions from this chapter

. Since monetary policy changes made through the fed funds rate occur with a lag, policymakers are usually more concerned with adjusting policy according to changes in the forecasted or expected inflation rate, rather than the current inflation rate. In light of this, suppose that monetary policymakers employ the Taylor rule to set the fed funds rate, where the inflation gap is defined as the difference between expected inflation and the target inflation rate. Assume that the weights on both the inflation and output gaps are ½, the equilibrium real fed funds rate is 4%, the inflation rate target is 3%, and the output gap is 2%. a. If the expected inflation rate is 7%, then at what target should the fed funds rate be set according to the Taylor rule?

b. Suppose half of Fed economists forecast inflation to be 6%, and half of Fed economists forecast inflation to be 8%. If the Fed uses the average of these two forecasts as its measure of expected inflation, then at what target should the fed funds rate be set according to the Taylor rule?

c. Now suppose half of Fed economists forecast inflation to be 0%, and half forecast inflation to be 14%. If the Fed uses the average of these two forecasts as its measure of expected inflation, then at what target should the fed funds rate be set according to the Taylor rule?

d. Given your answers to parts (a)–(c) above, do you think it is a good idea for monetary policymakers to use a strict interpretation of the Taylor rule as a basis for setting policy? Why or why not?

If the Fed has an interest-rate target, why will an increase in the demand for reserves lead to a rise in the money supply? Use a graph of the market for reserves to explain.

1. What are the benefits of using a nominal anchor for the conduct of monetary policy?

“If the demand for reserves did not fluctuate, the Fed could pursue both a reserves target and an interest-rate target at the same time.” Is this statement true, false, or uncertain? Explain

Why might macroprudential regulation be more effective in managing asset-price bubbles than monetary policy ?
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