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- Title
How credible is average and symmetric inflation targeting in an episode of high inflation?
- Authors
Herzog, Bodo
- Abstract
This article examines the risks and societal costs associated with flexible average inflation targeting in the United States and symmetric inflation targeting in the Eurozone. Employing an empirical approach, we analyze monthly cumulative inflation gaps over a monetary policy horizon of 36 months. By investigating the trajectories of the cumulative inflation gaps, we find a heavy tailed distribution and a 20 percent probability of over- and undershooting the inflation target. We exhibit that the offsetting mechanism introduced in the revised monetary strategies lack credibility in ensuring price stability during a period of persistent inflation. Consequently, the credibility of central banks may be compromised. The policy implications are the integration of an escape clause and prompt monetary corrections in cases where the inflation goal is not achieved. This study provides insights for policymakers and central banks, emphasizing challenges in maintaining credibility and price stability within the new monetary strategies. • The article examines the challenges of average inflation targeting in the US and Eurozone. • Inflation gaps reveal a heavy tail probability distribution. • We find a 20 percent tail probability of over- or undershooting the inflation target. • The inflation offsetting mechanism is poorly equipped to maintain price-stability in an era of entrenched inflation. • Our analysis exhibits the corrosive impact of monetary gradualism and the need of bold action under average inflation targeting. • Central banks ought to reinforce the inflation target in order to return credibility under the revised strategy.
- Subjects
INFLATION targeting; INDEXATION (Economics); CENTRAL banking industry; DISTRIBUTION (Probability theory); PRICE inflation; MONETARY policy
- Publication
Economic Analysis & Policy, 2023, Vol 80, p1750
- ISSN
0313-5926
- Publication type
Article
- DOI
10.1016/j.eap.2023.11.007