What Measure of Inflation Should a Developing Country Central Bank Target?

Author/Editor:

Rahul Anand ; Eswar S Prasad ; Boyang Zhang

Publication Date:

September 23, 2015

Electronic Access:

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Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

In closed or open economy models with complete markets, targeting core inflation enables monetary policy to maximize welfare by replicating the flexible price equilibrium. We analyze this result in the context of developing economies, where a large proportion of households are credit constrained and the share of food expenditures in total consumption expenditures is high. We develop an open economy model with incomplete financial markets to show that headline inflation targeting improves welfare outcomes. We also compute the optimal price index, which includes a positive weight on food prices but, unlike headline inflation, assigns zero weight to import prices.

Series:

Working Paper No. 15/205

Subject:

Central banks Developing countries Econometric models Inflation measurement Inflation targeting Monetary policy

English

Publication Date:

September 23, 2015

ISBN/ISSN:

9781513572574/1018-5941

Stock No:

WPIEA2015205

Format:

Paper

Pages:

37

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