Could a higher inflation target enhance macroeconomic stability?

Arbeitspapier

Recent international experience with the effective lower bound on nominal interest rates has rekindled interest in the benefits of inflation targets above 2 per cent. We evaluate whether an increase in the inflation target to 3 or 4 per cent could improve macroeconomic stability in the Canadian economy. We find that the magnitude of the benefits hinges critically on two elements: (i) the availability and effectiveness of unconventional monetary policy (UMP) tools at the effective lower bound and (ii) the level of the real neutral interest rate. In particular, we show that when the real neutral rate is in line with the central tendency of estimates, raising the inflation target yields some improvement in macroeconomic outcomes. There are only modest gains if effective UMP tools are available. In contrast, with a deeply negative real neutral rate, a higher inflation target substantially improves macroeconomic stability regardless of UMP.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: Bank of Canada Staff Working Paper ; No. 2018-17

Classification and Topics

• Classification: Wirtschaft ; Business Fluctuations; Cycles ; Prices, Business Fluctuations, and Cycles: Forecasting and Simulation: Models and Applications ; Interest Rates: Determination, Term Structure, and Effects ; Monetary Policy
• Subject: Economic models ; Inflation targets ; Monetary policy framework

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Dorich, José ; Labelle, Nicholas ; Lepetyuk, Vadym ; Mendes, Rhys R.
• Event: Veröffentlichung
• (who): Bank of Canada
• (where): Ottawa
• (when): 2018

Further information

• DOI: doi:10.34989/swp-2018-17
• Handle: http://hdl.handle.net/10419/197870
• Last update: 10.03.2025, 11:46 AM CET