Inflation targeting and private sector forecasts

Abstract

Transparency is one of the biggest innovations in central bank policy of the past quarter century.Modern central bankers believe that they should be as clear about their objectives and actions as possible.However, is greater transparency always beneficial?Recent work suggests that when private agents have diverse sources of information, public information can cause them to overreact to the signals from the central bank, leading the economy to be too sensitive to common forecast errors.Greater transparency could be destabilizing.While this theoretical result has clear intuitive appeal, it turns on a combination of assumptions and conditions, so it remains to be established that it is of empirical relevance.In this paper we study the degree to which increased information about monetary policy might lead to individuals coordinating their forecasts.Specifically, we estimate a series of simple models to measure the impact of inflation targeting on the dispersion of private sector forecasts of inflation.Using a panel data set that includes 15 countries over 20 years we find no convincing evidence that adopting an inflation targeting regime leads to a reduction in the dispersion of private sector forecasts of inflation.While for some specifications adoption of inflation target does seem to reduce the standard deviation of inflation forecasts, the impact is rarely precise and always small.

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