The Impact of Central Bank Independence on the It
The impact of central bank independence on the performance of inflation targeting regimes*
Sami Alpandaa, Adam Honiga** a Amherst College, Amherst, MA 01002 May, 2011
______________________________________________________________________________ Abstract This paper examines the benefits of inflation targeting in both advanced and emerging economies. We do not detect significant effects in advanced economies and only find small benefits in emerging economies, in line with previous studies. However, when we differentiate the impact of inflation targeting based on the degree of central bank independence, we find large effects in emerging economies with low central bank independence. Our results therefore suggest that central bank independence is not a prerequisite for successful implementation of inflation targeting. Furthermore, we provide evidence that one channel through which inflation targeting lowers inflation more in countries with low central bank independence is the reduction of budget deficits following the adoption of an inflation target. JEL Classification: E52; E58 Keyword(s): inflation targeting; central bank independence _________
* We are grateful to Ricardo D. Brito and Brianne Bystedt for providing us with their data. ** Corresponding author: 315 Converse Hall, Amherst College, Amherst, MA 01002-5000. Phone: (413) 5425032. Fax: (413) 542-2090. Email: ahonig@amherst.edu
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1
Electronic copy available at: http://ssrn.com/abstract=1850835
1. Introduction A growing number of countries have adopted inflation targeting (IT) as a monetary policy strategy. This trend began in the early 1990s with a handful of advanced economies. By the mid-1990s, several more industrial countries followed suit, and by the late 1990s and early 2000s, central banks in emerging economies began adopting IT. The count is currently at 8 advanced economies and 13 emerging market
Sami Alpandaa, Adam Honiga** a Amherst College, Amherst, MA 01002 May, 2011
______________________________________________________________________________ Abstract This paper examines the benefits of inflation targeting in both advanced and emerging economies. We do not detect significant effects in advanced economies and only find small benefits in emerging economies, in line with previous studies. However, when we differentiate the impact of inflation targeting based on the degree of central bank independence, we find large effects in emerging economies with low central bank independence. Our results therefore suggest that central bank independence is not a prerequisite for successful implementation of inflation targeting. Furthermore, we provide evidence that one channel through which inflation targeting lowers inflation more in countries with low central bank independence is the reduction of budget deficits following the adoption of an inflation target. JEL Classification: E52; E58 Keyword(s): inflation targeting; central bank independence _________
* We are grateful to Ricardo D. Brito and Brianne Bystedt for providing us with their data. ** Corresponding author: 315 Converse Hall, Amherst College, Amherst, MA 01002-5000. Phone: (413) 5425032. Fax: (413) 542-2090. Email: ahonig@amherst.edu
______________________________________________________________________________
1
Electronic copy available at: http://ssrn.com/abstract=1850835
1. Introduction A growing number of countries have adopted inflation targeting (IT) as a monetary policy strategy. This trend began in the early 1990s with a handful of advanced economies. By the mid-1990s, several more industrial countries followed suit, and by the late 1990s and early 2000s, central banks in emerging economies began adopting IT. The count is currently at 8 advanced economies and 13 emerging market