Inflation Forecast Targeting Research Articles

INFLATION-FORECAST TARGETING: A NEW FRAMEWORK FOR MONETARY POLICY?

This article provides an overview of inflation-forecast targeting (IFT) to build credibility and maintain stability. We show how inflation-forecast targeting is a transparent approach and an ideal strategy for monetary policy. In addition, public understanding would be essential to foster confidence and ensure the effectiveness of monetary policy. To this end, adequate management of expectations and transparent communication are important1.

India’s Inflation Process Before and After Flexible Inflation Targeting

We study the inflation process in India, focusing on the periods before and after the adoption of flexible inflation-forecast targeting (FIT) in India. Our analysis uses several approaches including standard Phillips curve estimation for headline and core inflation, an examination of the sensitivity of medium-term inflation expectations to inflation surprises, and the properties of convergence between headline and core inflation. Results indicate an important role for domestic factors in driving the inflation process, and there is evidence that expectations have become more anchored since 2015. This result could be attributable to FIT adoption, or to persistently low food prices which dominate the post-FIT-adoption period. The policy implications of these structural changes in the inflation process are investigated using a semi-structural model calibrated to the Indian economy.

Macroeconomic Forecast Relevance in the Central Banks Decisions. The Case of European Economies

We examine central banks' involvement in inflation forecast targeting by means of an index-based analysis and ordered logistic regression. The research encompasses the Bank of England, the Czech National Bank, the National Bank of Poland and the Sveriges Riksbank. They produce conditional or unconditional macroeconomic forecasts. Hence, two paths have been used to examine them. We examine whether the four central banks follow their forecasts to some extent. We have found that the CNB and SR are highly consistent in terms of compatibility of their decisions with the forecasts, timing of decisions, and communication by means of forecasts. The NBP follows its forecast much less consistently, while the BoE ignores it altogether. As some of the results for the BoE and NBP are unambiguous, we remain cautious while interpreting them. This paper contributes to the literature on the empirical evaluation of inflation forecast targeting.

Forward-looking component in consumers’ expectations and inflation forecast targeting:the case of six European economies

Since there are different ways of revealing central banks’ intentions, a simple research question, which we address in this study, arises. Is the forward-looking (FL) component of consumers’ expectations related to the way in which the forecast is revealed and used by central banks? The research covers six countries: The Czech Republic, Hungary, Romania, Poland, Sweden, and the UK, over the period of 2001-2016. Our methodology consists of the quantification of expectations, tests for rationality of expectations, estimation of the degree of their FL, the index-based assessment of central banks’ forecasting transparency and importance of forecasts in monetary policy, as well as correlation examination of forward-lookingness of monetary policy and expectation errors. Based on the completed research, we link the results of the FL analysis to the index-based assessment of inflation forecasts targeting. The results are varied. The highest degree of expectations’ FL is found for the UK and Sweden. Czech consumers’ expectations are less FL, whereas central banks’ involvement in inflation forecast targeting is comparable to the Swedish case. For two countries we found no forward-looking component in consumers’ expectations. The study makes a valid contribution to the existing literature as it presents a novel approach to analysing the relation between forecasts and inflation forecast targeting and expectations.

Consumers’ approach to the credibility of the inflation forecasts published by central banks: A new methodological solution

Modern monetary policy focuses on credibility and shaping inflation expectations. In keeping with the concept of inflation forecast targeting, the inflation forecasts published by central banks play a crucial role in the instrument rate decision-making process and may be treated as a specific intermediate target. This study proposes an inflation forecast credibility index, the scope of which is narrowed to non-specialists’ approach to inflation forecasts. The credibility of the forecast is defined as the ability to shape consumers’ inflation expectations. This ability is measured as the absolute difference between the central paths of inflation forecasts (the mode values) in the one-year forecast horizon and one-year consumers’ inflation expectations. The inflation forecast is represented in the study as a function of forecast attributes (accuracy, similarity, and deviation from the inflation target). The credibility function of the forecast is derived from belief function theory, normally distributed, and determined by the linear function of the chosen forecast attributes. The importance of these attributes depends on whether monetary policy was conducted before or after reaching the zero lower bound on the policy rate. The credibility index is calculated for the inflation forecasts published by the central banks of the United Kingdom and Sweden. The main conclusion of the study is that the deviations of the forecast in the last year of the forecast horizon and similarity between consecutive forecasts are important forecast attributes for shaping the inflation expectations of consumers before and after reaching the zero lower bound on the policy rate, and may determine the inflation forecast's credibility. However, the similarity to consecutive forecasts affects the forecast's credibility in opposite ways before and after reaching the zero lower bound on the policy rate.

Factors Driving Consumers’ Inflation Expectations: Does the Central Bank’s Inflation Forecast Really Matter?

This article examines the relationship between consumer expectations and inflation forecasts by the central bank. We assume that the inflation forecast is one of the factors influencing expectations. The vector error correction model is employed to test our hypothesis. The research covers the Bank of England, the Bank of Sweden, and the Czech National Bank from 2001–2015. Our results confirm the interrelation of inflation forecasts and expectations. The research contributes to the literature on inflation expectations and on inflation forecast targeting.

An Index for Transparency for Inflation-Targeting Central Banks: Application to the Czech National Bank

This paper develops a new central bank transparency index for inflation-targeting central banks (CBT-IT index). It applies the CBT-IT index to the Czech National Bank (CNB), one of the most transparent inflation-targeting central banks. The CNB has invested heavily in developing a Forecasting and Policy Analysis System (FPAS) to implement a full-fledged inflation-forecast-targeting (IFT) regime. The components of CBT-IT index include measures of transparency about monetary policy objectives, the FPAS designed to support IFT, and the monetary policymaking process. For the CNB, all three components have shown substantial improvements over time but a few gaps remain. The CNB is currently working on eliminating some of these gaps.

An Index for Transparency for Inflation-Targeting Central Banks: Application to the Czech National Bank

This paper develops a new central bank transparency index for inflation-targeting central banks (CBT-IT index). It applies the CBT-IT index to the Czech National Bank (CNB), one of the most transparent inflation-targeting central banks. The CNB has invested heavily in developing a Forecasting and Policy Analysis System (FPAS) to implement a full-fledged inflation-forecast-targeting (IFT) regime. The components of CBT-IT index include measures of transparency about monetary policy objectives, the FPAS designed to support IFT, and the monetary policymaking process. For the CNB, all three components have shown substantial improvements over time but a few gaps remain. The CNB is currently working on eliminating some of these gaps.

Measurmenet of inflation forecast targeting. A proposal of methodological solution

The paper offers a methodological solution to measuring infl ation forecast targeting (IFT). IFT is a central bank’s procedure which consists in: producing its own infl ation forecast, revealing its results and making interest rates decisions on the basis of the forecast. Infl ation forecast targeting is implemented, to some extent, by any central bank implementing infl ation targeting framework. It facilitates the forward-looking attitude of the central banker. This forward-lookingness facilitates the expectations shaping and goals achievement. The literature on IFT is broad but it does not cover a concise framework for IFT analysis and measurement. The following contribution fi lls in this gap. It presents the IFT index. The idea of its elaboration is in line with any monetary policy qualitative aspects measurement: 5 aspects of IFT are distinguished, each of which having a system of points attribution described. These aspects are: forecasting methodology, declaration on the forecast role in the monetary policy, forecast publication, actual central bank’s practice and ex post forecast evaluation. Actual central bank’s practice covers the assessment of the central bank’s decision compatibility with the message of the forecast. The multivariate scheme of assessment which considers central bank’s fl exibility in the decision making process – guaranteed by the framework of the infl ation targeting – is elaborated. The other IFT aspects’ evaluations consist in the analysis of the information revealed. The IFT can be divided into two sub indices: one covering only the forecasting system transparency and the other one – for decisions compatibility check. The IFT index and sub-indices are universal in the sense of considering the IFT broadly on the basis of various central bank’s practice. The index can be used to cross-country and over time comparison – such an example is also presented in the paper. It also makes it possible to verify the hypotheses on the central banks’ consistency in implementing IFT – measured by IFT index – and the central banks’ performance.

The forecasts-based instrument rule and decision making. How closely interlinked? The case of Sweden

Research background: The Central Bank of Sweden declared in years 1999?2006 the implementation of the Svensson?s concept of inflation forecast targeting (IFT). It means that the repo rate decision-making process depends on the inflation fore-casts. The concept evolved from the strict IFT with the decision-making algorithm called ?the rule of thumb? to the flexible IFT.Purpose of the article: The aim of the article is to: (1) analyze the influence of the inflation rate and GDP growth rate on the repo rate decisions, (2) analyze the influence of the inflation rate and GDP growth rate forecasts (in two year horizon) on the repo rate decisions in Sweden in years 1999?2006.Methods: The analysis encompasses the repo rates decisions, CPI inflation rate, GDP growth rate, central paths of CPI inflation forecasts and central paths of GDP growth rate forecasts (the mode values) in the two years horizon published by The Central Bank of Sweden in years 1999?2006. The studies are based on the Taylor-type instrument rule and forecast-based Taylor-type instrument rule. The methodology used is multiple linear regression models.Findings & Value added: The Central Bank of Sweden in years 1999?2006 implemented direct inflation forecast targeting (DIFT) rule. The decision-making algorithm was based on the CPI inflation forecasts and the rule of the thumb algorithm. The exact rule of the thumb was as follow: if the inflation forecast, in the two year forecast?s horizon exceeded the infla-tion target by 1 p.p., then the central bank raised the repo rate by 0.4 p.p; if it was below it, then the central bank reduced the repo rate by 0.4 p.p. If the inflation forecast was equal to the inflation target, then the repo rate remained unchanged. The historical repo rates differ from the theoretical estimated rule of the thumb?s repo rates by +/-0.28 p.p.

How the central bank makes decision on interest rates? A comparative analysis of forecast importance

Research background: Most of the modern central banks (CBs) acknowledge the role of economic agents? expectations in monetary policy. To shape these expectations and to over-come the lags occurrence, CBs produce and reveal macroeconomic forecast and declare that it is the input into their deliberations and monetary policy adjustments. This is how central banks implement inflation forecast targeting. The formal assessments of actual forecast importance in central banks? decisions is not presented in the literature ? to the best author?s knowledge.Purpose of the article: The paper is of methodological nature. It presents the index that compares inflation forecast importance in the central banks decisions. The elaboration of such index is the main goal of the paper. The index is tested empirically for Czechia and Sweden.Methods: Comparably to other research presenting the tools that approximate some qualitative variables, the methodological part of the paper offers the description of the factors covered by the index with their justification and point attribution. The index is suitable to assess CBs decision?s accordance with the forecast produced under constant rate assumption as well as under endogenous interest rates. It is designed to cover low quality data as the time series on the central path of the forecast are not always accessible. In this cases only the relation of the forecast to the inflation target is revealed on the fan charts.Findings & Value added: The index elaboration and its calculation for Czechia and Sweden is presented in the paper. It thus contributes to the literature on ex post assessment of the central bank?s actions. This formalized assessment opens the field for making further con-clusions on inflation forecast targeting implementations and possible impact of the forecast on the economic agents' expectations.

Central Banks Inflation Forecast and Expectations. A Comparative Analysis

The question on the inflation expectations management is one of the most important ones from the central bank's point of view. The inflation forecast can be a helpful tool of managing expectations. If it actually is, the interdependences of the inflation forecast and expectations can be observed. The existence of such interdependences opens the field for determining the preconditions that might support expectations formation. The hypothesis assumes that associations of inflation forecasts and inflation expectations depend on the central bank's credibility and consistency in inflation forecast targeting. The research covers the Czech National Bank, the National Bank of Hungary, the National Bank of Poland and Sveriges Riksbank. The research combines qualitative and quantitative methods. The research uses survey-based expectations quantified with probabilistic method. The main finding is that the relatively high level of credibility and consistency in inflation forecast targeting is not sufficient to achieve strong interdependences of inflation forecast and expectations.

Czech Magic: Implementing Inflation-Forecast Targeting at the CNB

This paper describes the CNB’s experience implementing an inflation-forecast targeting (IFT) regime, and the building of a system for providing the economic information that policymakers need to implement IFT. The CNB’s experience has been very successful in establishing confidence in monetary policy in the Czech Republic and should provide useful guidance for other central banks that are considering adopting an IFT regime.

Czech Magic: Implementing Inflation-Forecast Targeting at the CNB

This paper describes the CNB’s experience implementing an inflation-forecast targeting (IFT) regime, and the building of a system for providing the economic information that policymakers need to implement IFT. The CNB’s experience has been very successful in establishing confidence in monetary policy in the Czech Republic and should provide useful guidance for other central banks that are considering adopting an IFT regime.

Inflation-Forecast Targeting for India: An Outline of the Analytical Framework

India formally adopted flexible inflation targeting (FIT) in June 2016 to place price stability, defined in terms of a target CPI inflation, as the primary objective of monetary policy. In this context, the paper draws on Indian macroeconomic developments since 2000 and the experience of other countries that adopted FIT to bring out insights on how credible policy with an emphasis on a strong nominal anchor can reduce the impact of supply shocks and improve macroeconomic stability. For illustrating the key issues given the unique structural characteristics of India and the policy options under an FIT framework, the paper describes an analytical framework using the core quarterly projection model (QPM). Simulations of the QPM are carried out to illustrate the monetary policy responses under different types of uncertainty and to bring out the importance of gaining credibility for improving monetary policy efficacy.

Inflation-Forecast Targeting for India: An Outline of the Analytical Framework

India formally adopted flexible inflation targeting (FIT) in June 2016 to place price stability, defined in terms of a target CPI inflation, as the primary objective of monetary policy. In this context, the paper draws on Indian macroeconomic developments since 2000 and the experience of other countries that adopted FIT to bring out insights on how credible policy with an emphasis on a strong nominal anchor can reduce the impact of supply shocks and improve macroeconomic stability. For illustrating the key issues given the unique structural characteristics of India and the policy options under an FIT framework, the paper describes an analytical framework using the core quarterly projection model (QPM). Simulations of the QPM are carried out to illustrate the monetary policy responses under different types of uncertainty and to bring out the importance of gaining credibility for improving monetary policy efficacy.

Can inflation forecast and monetary policy path be really useful? The case of the Czech Republic

Producing and revealing inflation forecast is believed to be the best way of implementing a forward-looking monetary policy. The article focuses on inflation forecast targeting (IFT) at the Czech National Bank (CNB) in terms of its efficiency in shaping consumers’ inflation expectations. The goal of the study is to verify the accuracy of the inflation forecasts, and their influence on inflation expectations. The research is divided into four stages. At the first stage, central bank credibility is examined. At the second stage – accuracy of the inflation forecasts. The next step of the research covers a qualitative analysis of IFT implementation. Finally, the existence of the interdependences of inflation forecast, optimal policy paths and inflation expectations is analyzed. Credibility of the central bank, accuracy of the forecast and decision-making procedures focused on the forecast are the premises for the existence of relationship between forecasts and expectations. The research covers the period from July 2002 – till the end of 2013. Its methodology includes qualitative analysis of decision-making of the CNB, quantitative methods (Kia and Patron formula, MAE forecasts errors, quantification of expectations, non-parametric statistics). The results confirm the existence of interdependences between inflation forecasts and expectations of moderate strength. The preconditions of such interdependences are partially fulfilled. The research opens the field for cross-country comparisons and for quantification of IFT implementation.

Inflation-Forecast Targeting: Applying the Principle of Transparency

Many central banks in emerging and advanced economies have adopted an inflation-forecast targeting (IFT) approach to monetary policy, in order to successfully establish a stable, lowinflation environment. To support policy making, each has developed a structured system of forecasting and policy analysis appropriate to its needs. A common component is a modelbased forecast with an endogenous policy interest rate path. The approach is characterized, among other things, by transparent communications—some IFT central banks go so far as to publish their policy interest rate projection. Some elements of this regime, although a work still in progress, are worthy of consideration by central banks that have not yet officially adopted full-fledged inflation targeting.

Inflation-Forecast Targeting: Applying the Principle of Transparency

Many central banks in emerging and advanced economies have adopted an inflation-forecast targeting (IFT) approach to monetary policy, in order to successfully establish a stable, low-inflation environment. To support policy making, each has developed a structured system of forecasting and policy analysis appropriate to its needs. A common component is a model-based forecast with an endogenous policy interest rate path. The approach is characterized, among other things, by transparent communications—some IFT central banks go so far as to publish their policy interest rate projection. Some elements of this regime, although a work still in progress, are worthy of consideration by central banks that have not yet officially adopted full-fledged inflation targeting.

Frontiers of Monetary Policymaking: Adding the Exchange Rate as a Tool to Combat Deflationary Risks in the Czech Republic

The paper first describes how the Czech National Bank (CNB) moved gradually from a fixed exchange rate regime to the frontiers of Inflation-Forecast Targeting. It then focuses on the CNB’s recent experience in adding the exchange rate as a complementary monetary policy tool to stimulate the economy and combat the risks of deflation when the policy interest rate is at the zero lower bound. It assesses the theoretical basis of such a policy, the