BoC paper experiments with price-level targeting

A Bank of Canada (BoC) paper published on Friday shows the public's perception of inflation can effectively revert towards a price-level targeting regime even though forecasts of future inflation are not fully utilised.

Robert Amano, Jim Engle-Warnick and Malik Shukayev, the paper's authors, shed light on the formation of inflation expectations under a price-level targeting regime by conducting an economics decision-making experiment that tests the key assumptions underpinning the efficacy of price-level targeting relative to inflation targeting.

In particular, the authors attempt to infer whether experimental participants understand the stationary nature of the price level under price-level targeting by observing their inflation forecasting behaviour. This is an important assumption since, without it, price-level targeting can lead to worse outcomes than inflation targeting.

The results suggest participants formulate inflation expectations consistent with the target-reverting nature of the price level, but that they do not fully utilise it in their forecasts of future inflation.

Click here to read the paper