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What are monetary policy shocks?

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  • Qureshi, Irfan

Abstract

I decompose deviations of the Federal funds rate from a Taylor type monetary policy rule into exogenous monetary policy shocks and a time-varying inflation target. I show that the role of exogenous shocks may be exaggerated in a fixed inflation target model, and a large fraction of business cycle fluctuations attributed to them may actually be due to changes in the inflation target. A time-varying inflation target explains approximately half of the volatility normally attributed to these deviations, and consequently more than a quarter of the fluctuations in the business cycle. This contributes approximately 39% additional inflation volatility during the Great Inflation. I show that shocks to the inflation target imply a lower sacrifice ratio compared to exogenous changes in the interest rate and therefore propose a gradual adjustment of the inflation target in order to achieve monetary policy objectives.

Suggested Citation

  • Qureshi, Irfan, 2015. "What are monetary policy shocks?," Economic Research Papers 270008, University of Warwick - Department of Economics.
    • Handle: RePEc:ags:uwarer:270008
    DOI: 10.22004/ag.econ.270008
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    1. Qureshi, Irfan, 2015. "Monetary Policy Shifts and Central Bank Independence," MPRA Paper 81646, University Library of Munich, Germany, revised Sep 2017.

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