Finland paper advocates partial commitment to inflation targeting

Bank of Finland study warns of dangers involved in ‘over-committing’ to interest rate adjustments in reaction to price changes; suggests short-term reactions may be appropriate
bank-of-finland

A Bank of Finland discussion paper says there is a ‘real danger' of policy-makers fully committing to an inflation-targeting regime.

The author, George Waters, acknowledges using interest rates to counter movements in price levels – a lagged variable – can be an important tool. However, the author said, the degree to which policy-makers should commit to this approach depends on how expectations form and how accurately they are estimated.

There is the potential for "very poor outcomes" if the response is excessive, the author added. In a case where usual rule-based procedures do not apply, including when interest rates approach the zero lower bound, a short-run price level target is more appropriate to allow for an unanticipated shift in the way the public forms expectations.

Click here to read the paper.

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