Authors: Bartholomew Moore
Addresses: Department of Economics, Fordham University, 441 East Fordham Road, Bronx, NY 10458, USA
Abstract: I examine the stability of least-squares learning in a flexible-price endowment economy when there is an anticipated change in the inflation target. Monetary policy follows a Taylor rule and a change in the target is announced several periods in advance. I show that highly plausible parameter values may lead to short-run instability and that the conditions for the stability of learning are more demanding soon after the policy change is announced. Also, the farther in advance the change is announced the narrower is the range of policy parameters that generate stability. This is because with a long transition, any estimation error is projected farther into the future and its effects are therefore magnified. These results suggest that advance communication of a change in the inflation target may destabilise inflation in the short run; when the central bank changes its inflation target, a brief transition may be preferable.
Keywords: monetary policy; expectations; learning stability; anticipated changes; target inflation rate; flexible-price endowment economy; policy changes.
International Journal of Monetary Economics and Finance, 2016 Vol.9 No.3, pp.267 - 293
Received: 04 May 2015
Accepted: 15 Jul 2015
Published online: 04 Aug 2016 *