Are Contemporary Central Banks Transparent about Economic Models and Objectives and What Difference Does it Make?

This paper documents the opaqueness of central banks about the economic models they use to choose policy but argues that this is largely due to the lack of consensus about the correct model of the economy within the economic profession. The latter is illustrated by contrasting three currently popular models of the transmission mechanism. Although the inflation targets of Western central banks are currently quite clear they tend to be hazy about their output targets and about whether they are strictor flexible inflation targeters (in Svensson's (1997) sense), and in the second case, how flexible. They are remarkably silent about the shape of their loss function in the entire range of output gaps. The second part of the paper first reviews the case for believing that at least some central banks are, given inflation, more averse to negative than to positive output gaps and then investigates the consequences of this asymmetry for average inflation. It is shown, for both an expactations augmented Phillips curve as well as for a New -Keynesian transmission mechanism, that in the presence of uncertainty about the upcoming state of the economy flexible inflation targeters with assymetric objectives induce an onflation bias even if their output target is the potential level. Furtehrmore the inflationary tendencies of policymakers who believe in sticky prices are stronger than of those who do not. But, provided prices are really in sticky, the economy is non neutral even in the long run, and the policies of the former also induce a higher level of output. The consequences of transparency about those mechanisms for credibility are evaluated. -- Dieses Papier zeigt zunächst, dass Notenbanken hinsichtlich des Modells, das sie ihrer Politik zugrundelegen, Stillschweigen wahren. Es wird weiterhin argumentiert, dass dies daran liegt, dass sich die Volkswirte über das richtige Modell nicht einig sind. Dazu werden 3 verbreitete Modelle des Transmissionsprozesses einander gegenübergestellt. Währende die Inflationsziele westlicher Zentralbanken recht klar sind, besteht größere Unsicherheit über ihre Outputziele und darüber, ob sie ihr Inflationsziel strikt oder flexibel (und gegebenenfalls wie flexibel) anstreben (im Sinne von Svensson, 1997). Zentralbanken sind auch bezüglich der Form ihrer Verlustfunktion verschwiegen, insbesondere was die Output-Lücke angeht. Dies gilt, obwohl in einer unsicheren Welt Politikentscheidungen von der Form der Verlustfunktion abhängen. Der zweite Teil des Papiers geht zunächst auf den Fall ein dass zumindestens einige Zentralbanken, bei gegebener Inflation eine größere Abneigung gegenüber negativen als gegenüber positiven Output-Lücken haben. Die Folgen dieser Assymetrie für die durchschnittliche Inflation werden untersucht. Sowohl bei einer erwartungsabhängigen Phillipskurve als auch bei einem Neo-Keynesianischen Transmissionsmechanismus haben Zentralbanken mit einer flexiblen Inflationsrate und einer asymmetrischen Zielfunktion mit einem Inflationsbias zu tun. Das gilt selbst wenn das Outputziel mit dem Produktionspotential übereinstimm. Zudem sind die Inflationstendenzen höher wnn Wirtschaftspolitiker daran glauben, dass sich die Preise nur allmählich an ihr Gleichgewicht anpassen, als wenn sie solche Vorstellungen nicht hätten. Wenn allerdings solche Vorstellungen über die Preise tatsächlich zutreffen, dann ist Geld auch langfristig nicht neutral. die Politiker vom ersten Typ ermöglcihen dann ein höheres Output-Niveau. Es wird geprüft, welche Folgen es für die Glaubwürdigkeit hat, wenn für Transparenz über diese Mechanismen gesorgt wird.

Are contemporary central banks transparent about economic models and objectives and what difference does it make?

Monetary policy ; Econometric models ; Banks and banking, Central

Central Bank Independence, Centralization of Wage Bargaining, Inflation and Unemployment: Theory and Evidence

This paper proposes a conceptual framework that makes it possible to investigate the effects of central bank independence, the degree of centralization of wage bargaining and the interaction between those institutional variables on the real wage, unemployment and inflation. This is done by considering a two-stage strategic interaction between a central bank (CB) with a given degree of conservativeness and a number of unions each of which sets its own nominal wage taking the nominal wages of other unions and the reaction-function of the CB as given. In the second stage the CB picks inflation so as to minimize the combined costs of inflation and unemployment, taking union's wage rates as given. Since unions are averse to inflation they partly moderate their wage demands in order to induce the CB to inflate at a lower rate. An increase in the degree of centralization of wage bargaining (a decrease in the number of unions) triggers two opposite effects on real wages, unemployment and inflation. The decrease in the number of unions reduces the substitutability between the workers of different unions and therefore the degree of effective competition between them. This "reduced competition effect" raises real wages, unemployment and inflation. But the decrease in the number of unions also strengthens the moderating effect of inflationary fears on the real wage demands of each union. This "strategic effect" lowers real wages, unemployment and inflation. The interaction between those two effects produces a Calmfors- Driffill type relation between real wages and centralization. The paper analyzes the effects of centralization and independence on the position and the shape of this Calmfors-Driffill relation as well as on inflation and unemployment. Some of the resulting implications are tested empirically using data from nineteen developed economies. Implications for the optimal degree of conservativeness and for EMU are also discussed.Monetary institutions; Credibility; Industrial organization of labor markets; Centralization of wage bargaining; Inflation; Unemployment

Labor Markets and Monetary Union; a Strategic Analysis

This paper analyzes the macroeconomic consequences of the establishment of a monetary union in the presence of unionized labor markets. It is shown that the effects of the formation of a monetary union depend on several labor market features, such as the degree of centralization of wage bargaining, labor unions' inflation aversion and the degree of substitutability between the labor of different unions. In particular, the switch from national monetary policies to a unified monetary policy usually affects both inflation and unemployment, even when all structural parameters of the economy and of unions' and policymakers' preferences remain the same. The benchmark case of a monetary union between identical countries suggests that the switch to a monetary union is likely to make labor unions more aggressive, increasing unemployment. Qualifications to this result are provided and their robustness is investigated under alternative structural assumptions, like crosscountry asymmetries, (preunion) ERM membership and wage leadership.

Do Central Banks have Precautionary Demands for Expansions and for Price Stability?

This paper analyses the impact of asymmetric preferences with respect to inflation and output by policymakers on interest-rate reaction functions. A theoretical framework which makes it possible to identify the dominant type of asymmetry is developed and related to the precautionary demand of pol- icymakers for expansions and for low inßation. Using data for some G7 economies, the paper shows that, except for Germany, nonlinear and asym- metric behaviour is present. A main Þnding is that where credibility-building and disinflation has already been achieved, the monetary authorities develop a greater precautionary demand for output expansions than for low inflation. This may generate a new type of inflation bias. Conversely, where credibility- building is still a concern for the authorities, managing the business cycle is dominated by concerns of the monetary authorities to keep inflation expec- tations low.

Endogenous monetary policy with unobserved potential output

This paper characterizes endogenous monetary policy when policymakers are uncertain about the extent to which movements in output and inflation are due to changes in potential output or to cyclical demand and cost shocks. We refer to this informational limitation as the “information problem” (IP). Main results of the paper are: 1. Policy is likely to be excessively loose (restrictive) for some time when there is a large decrease (increase) in potential output in comparison with a full information benchmark. 2. Errors in forecasting potential output and the output gap are generally serially correlated. These ndings provide a partial explanation for the inflation of the seventies and the price stability of the nineties. 3. A quantitative assessment, based on an empirical model of the US economy developed by Rudebusch and Svensson (1999), indicates that during and following periods of large changes in potential output the IP significantly affects the dynamics of inflation and output. 4. The increase in the Fed’s conservativeness between the seventies and the nineties, and a more realistic appreciation of the uncertainties surrounding potential output in the second period, imply that the IP problem had a stronger impact in the seventies than in the nineties.monetary policy, potential output, filtering, inflation, output gap

Do Central Banks have Precautionary Demands for Expansions and for Price Stability? - Theory and Evidence

This paper analyses the impact of asymmetric preferences with respect to inflation and output by policymakers on interest-rate reaction functions and test for their existence. A modified New Keynesian framework which makes it possible to identify the dominant type of asymmetry is developed and related to the precautionary demand of policymakers for expansions and for low inflation. Using data for four G7 economies, the paper shows that, except for Germany, nonlinear and asymmetric behaviour is present. A main finding, for the US, is that after credibility-building and disinflation have been established, the monetary authority develops a greater precautionary demand for output expansions than for low inflation. This may generate a new type of inflation bias. Conversely, where, as is the case in the UK, credibility-building is still a concern for the authorities, managing the business cycle is dominated by concerns of the monetary authorities to keep inflation expectations low.

Nezavisnost centralne banke i institucije monetarne politike - prošlost, sadašnjost i budućnost

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Seigniorage and Political Instability

The importance of seignorage relative to other sources of government revenue differs markedly across countries. The main theoretical implication of this paper is that countries with more unstable and polarized political systems rely more heavily on seignorage. This result is obtained within the context of a political model of tax reform. The model implies that the more unstable and polarized the political system, the more inefficient is the equilibrium tax structure (in the sense that tax collection is more costly to administer), and the higher therefore, the reliance on seignorage. This prediction of the model is tested on cross-section data for 79 countries. It is found that, after controlling for other variables, political instability significantly contributes to explain the fraction of government revenue derived from seignorage. This finding is very robust. We also find that seignorage is positively related to political polarization, even though here the evidence is weaker because of difficulties in measuring polarization.

CENTRAL BANK INDEPENDENCE AND MONETARY POLICY MAKING INSTITUTIONS: PAST, PRESENT, AND FUTURE

In the past, central banks were expected—by law, custom, or both—to use their policy instruments to attain a multitude of objectives, such as high levels of growth and employment, provision of funds to the government, and resolution of balance-of-payment problems. Today central banks’ legal and actual independence is substantially higher than it was twenty years ago, and price stability has become their primary objective. The paper reviews the institutional changes that occurred over the last two decades in the area of central bank autonomy and related monetary policymaking institutions around the world, providing an overview of accumulated empirical evidence on the relation between central bank independence and macroeconomic performance. Lessons from inflation stabilization are considered in conjunction with central bank independence within the broader context of choice of nominal anchor. The last part considers future challenges facing independent central banks in an era of price stability. Once inflation has been conquered, the bank is naturally expected to devote more attention to the stabilization of the output gap. Risks associated with such a flexible inflation-targeting regime are examined, along with issues of accountability and transparency, which become more important in the new regime. The paper also reviews the tradeoffs between democratic accountability and central bank autonomy that arise in the context of distribution of central bank profits (or losses) between the central bank and the government and the choice of central bank capital.