Monetary Policy Preferences in the West African Monetary Zone: Evidence from Dynamic General Equilibrium Models

Abstract

Anecdotal evidence shows that in spite of regional efforts towards achieving convergence, the single digit inflation objective has not been realized. The jury is still out on the dynamics of price level convergence and the monetary authorities’ relative weights in the loss function. Consequently, the overall objective of this study is to examine whether or not the relative weights in the monetary policy rule under optimal policy solution differ from the posterior estimates. The study applied a dynamic stochastic general equilibrium model using Bayesian estimation techniques to identify the policy-makers’ policy preferences. The results show that the posterior estimates show evidence of sticky prices with an average duration of price contracts of around 2 - 4 quarters. In addition, the coefficient of interest rate smoothing were high at 0.62, 0.52, 0.61, 0.79 and 0.66 for The Gambia, Ghana, Guinea, Nigeria and Sierra Leone, respectively, implying that the contemporaneous responsiveness of the nominal interest rates to inflation and output gap is dampened, an indication of a passive use of monetary policy as a demand management tool. Also, the impact of a change in interest rate on inflation is relatively non-persistent and short-lived. Overall, WAMZ member countries indicate preference for output stabilization.