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Average inflation targeting: how far to look into the past and the future?

Author

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  • Masek, Frantisek
  • Zemlicka, Jan

Abstract

We analyze the optimal window length in the average inflation targeting rule within a Behavioral THANK model. The central bank faces an occasionally binding effective lower bound (ELB) or persistent supply shocks, and can also use quantitative easing. We show that the optimal averaging period is infinitely long given a conventional degree of myopia. Finite yet long-lasting windows dominate for higher cognitive discounting; i.e., the makeup property is shown to be qualitatively resistant to deviation from rational expectations. We point out that the optimal window may depend on the speed of return to the target path. We solve the model both locally and globally to disentangle the effects of uncertainty due to the ELB. The welfare loss difference between solution techniques is considerably decreasing in the degree of history dependence. JEL Classification: E31, E32, E52, E58, E71

Suggested Citation

  • Masek, Frantisek & Zemlicka, Jan, 2024. "Average inflation targeting: how far to look into the past and the future?," Working Paper Series 2955, European Central Bank.
    • Handle: RePEc:ecb:ecbwps:20242955
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    More about this item

    Keywords

    average inflation targeting; behavioral macroeconomics; heterogeneous agents; monetary policy;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • E71 - Macroeconomics and Monetary Economics - - Macro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on the Macro Economy

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