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Inflation targeting and private sector forecasts

Inflation targeting and private sector forecasts. Stephen G Cecchetti and Craig S Hakkio Bank for International Settlements and Federal Reserve Bank of Kansas City. Sixth Norges Bank Conference on Monetary Policy 12 June 2009.

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Inflation targeting and private sector forecasts

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  1. Inflation targeting and private sector forecasts Stephen G Cecchetti and Craig S Hakkio Bank for International Settlements and Federal Reserve Bank of Kansas City Sixth Norges Bank Conference on Monetary Policy 12 June 2009 The views expressed in these slides are those of the presenter and do not necessarily reflect those of the Bank for International Settlements, the Federal Reserve Bank of Kansas City or the Federal Reserve System 1

  2. Motivation • Consensus is that transparency is good • Policymakers should be a source of stability not noise • Markets should respond to data not policy actions Cecchetti and Hakkio

  3. Inflation targeting • Communication strategy • Public announcements • Targets • Plans • Decisions Cecchetti and Hakkio

  4. How far should central banks go? • Transparency is not nudity • Influences the decision process itself • Can it be destabilising? • Morris and Shin: • Individuals care about accurately forecasting economy • Individuals care about forecasts of other individuals • Creates possibility of coordination on public information • Greater transparency may raise sensitivity to common shocks Cecchetti and Hakkio

  5. Is this a problem in the real world? • Does transparency influence the dispersion of private sector forecasts? • Narrow empirical question:Does a shift to inflation targeting reduce the dispersion of private sector inflation forecasts? • Method: Simple cross-country regressions Cecchetti and Hakkio

  6. Data • Monthly surveys of forecasts by Consensus Economics • October 1989 to April 2009 • 16 Countries • 2 targeted inflation over entire period • 6 adopted inflation targeting during the period • 8 never formally adopted inflation targeting(but transparency may have increased during the period) • Standard deviation of inflation () forecast for • Current year, c, for country i made at time t: Sit(,c) • Next year, n, for country i made at time t: Sit(,n) Cecchetti and Hakkio

  7. Standard deviation of current year’s inflation forecast:average across all countries Note level: Average around 0.25

  8. Standard deviation of next year’s inflation forecast:average across all countries Note level: Average around 0.40

  9. Seasonality in Forecast Standard Deviation • Falls from January to December • As year progresses, forecasting inflation during the year becomes less of a challenge • Examine simple regressions: Cecchetti and Hakkio

  10. Cecchetti and Hakkio

  11. Some simple regressions • Add a dummy variable for inflation targeting to the regression: • Is  <0? • Only works if country has both regimes. • Low power test • Result: Inconclusive Cecchetti and Hakkio

  12. Cecchetti and Hakkio

  13. Simple regression with conditioning information Add: • Lagged standard deviation of forecasts • Standard deviation of output forecasts Cecchetti and Hakkio

  14. Some negative point estimates, but t-ratios small. Some estimates with high t-ratios, but they are positive. Cecchetti and Hakkio

  15. Panel Regressions Add • Country fixed effects • Time fixed effects • Crisis dummy variables: • Sept 2007 to Sept 2008 • Oct 2008 to Apr 2009 Cecchetti and Hakkio

  16. Crisis 10/08 to 4/09 Time fixed effects Country fixed effects Crisis 9/07 to 9/08 Lagged st. dev. of  forecast Lagged st. dev. of y forecast Panel Regressions Cecchetti and Hakkio

  17. Cecchetti and Hakkio

  18. Panel Regressions: Results • Inflation targeting does reduce forecast standard deviation • Important to control for output forecast uncertainty • There is substantial persistence Cecchetti and Hakkio

  19. Panel Regressions: Is -0.009 a large number? Cecchetti and Hakkio

  20. Note level: Average around 0.25

  21. Note level: Average around 0.40

  22. Panel Regressions: Is -0.009 a large number? • Reduces Sit(,c) by one part in 25 • Reduces Sit(,n) by one part in 40 • Crisis has raised Sit(,c) by 0.4, 40+ times more Cecchetti and Hakkio

  23. Conclusion • Does increased transparency reduce the dispersion of private sector inflation forecasts? • Answer appears to be no. Cecchetti and Hakkio

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