Sacrifice Ratios and the Conduct of Monetary Policy in Conditions of Low Inflation

Abstract

Fax: +41 61 / 280 91 00 and +41 61 / 280 81 00This publication is available on the BIS website (www.bis.org). The focus of monetary policy has shifted markedly over the past 15 years away from attempts to fine tune the economy towards the longer-run goal of attaining price stability and creating the necessary conditions for sustainable economic growth. In an attempt to minimise the costs of such a transition, central banks have become more independent and monetary policy more transparent, changes intended to increase the credibility of monetary policy and to reduce short-run sacrifice ratios. However, concerns have been expressed that an environment of price stability and independent central banks may instead lead to higher sacrifice ratios and, perhaps, even higher rates of structural unemployment, because of the increased importance of nominal and real rigidities at low rates of inflation. © Bank forThe purpose of this paper is to analyse whether there are any grounds for such concerns. We do so by estimating sacrifice ratios for 19 industrialised countries, using three alternative approaches: (1) estimating aggregate supply curves; (2) estimating structural price and wage equations; and (3) comparing actual changes in inflation with changes in standard measures of output and labour market slack. The empirical evidence shows that, as the average rate of inflation for the 19 countries in our sample has fallen from 8% to 3½%, the average sacrifice ratio has increased from around 1.5 to about 2.5. Although sacrifice ratios appear to have risen in virtually all countries, the increases tend to be smallest in those that have adopted measures to deregulate labour and product markets and in countries where the central bank has adopted explicit inflation targets. However, the empirical evidence also reveals that point estimates of the sacrifice ratios for individual countries are quite sensitive to the econometric method adopted. This last result suggests that identification of the sources of higher sacrifice ratios remains elusive and thus that one should be cautious about drawing strong implications for monetary policy from these kinds of estimates.* We gratefully recognise comments on an earlier draft by J D Amato, T Andersen, R Filosa and participants at seminars at the BIS, the Swiss National Bank and the Bank of Greece.

Labor market structures and the sacrifice ratio

“…In order to maintain full comparability with other papers in the literature, the Ball estimates of the sacri…ce ratio are used through 1988, and observations from the alternative source are added post 1988. 3 A similar strategy is followed by Caporale and Caporale (2008), who augment Ball's sample using post 1988 estimates of the sacri…ce ratio from Andersen and Wascher (1999). Although there are some di¤erences across the sacri…ce ratios identi…ed by Andersen and Wascher and Bowdler for the post-1988 period, in our results we are able to reproduce the main …ndings from Caporale and Caporale (2008), suggesting general agreement between the two sources.…”

“…sacri…ce ratios under right wing governments is slightly weaker when the sample is expanded using Bowdler (2009) rather than Andersen and Wascher (1999).…”

Asymmetric new Keynesian Phillips curve for Mexico, 2005Q1–2022Q4

“…Several articles analyze the determinants of inflation and its consequences on the economic system and on labor markets. Andersen and Wascher (1999) study the behavior of the sacrifice ratio in developed countries in a context of low inflation. Gonçalves and Carvalho (2008) show that the countries that adopted ITA had to sacrifice less output to stabilize the economy around its medium-term macroeconomic equilibrium.…”