Monetary policy analysis and inflation targeting in a small open economy: a VAR approach

Empirical monetary policy research has increased in the last decade, possibly because deregulation and explicit monetary targets have made monetary policy issues more interesting. In particular, within the inflation targeting framework it has been argued that inflation forecasts can be used as optimal intermediate targets for monetary policy, and the development of empirical models that have good forecasting properties is therefore important. This paper shows that a VAR model with long-run restrictions, justified by economic theory, is useful for both forecasting inflation and for analysing other issues that are central to the conduct of monetary policy. Copyright © 2001 John Wiley & Sons, Ltd.