The Central Bank's endogenous and non-linear credibility in a dynamic stochastic general equilibrium model: theory and a small computational simulation

Measuring the Monetary Policy’s Structural Credibility by the Expected Inflation Determinants: a Kalman Filter Approach for Brazil

“…Conversely, credibility is also affected by inflationary shocks over time. These empirical results are consistent with the theoretical models of Lalonde (2005), Argov et al (2007), and Moreira (2013a), which broadly point out the existence of mutual causality between credibility and observed inflation. Possible extensions to the current work would be to apply its methodology to other economies and to compare the findings to alternative monetary policy credibility indexes in terms of fitness to data.…”

“…Such a management requires a credible commitment from the Central Bank so that the economic agent's expected inflation relies heavily on the announced target. There is a specific literature on the properties of monetary policy credibility and its impacts on macroeconomic performance and policy efficiency (see Argov et al, 2007, Lalonde, 2005, Moreira, 2013a.…”

“…As the degree of credibility is extracted by a theoretical model and not simply by an index imposing ad hoc conditions, such credibility will be called structural credibility. Moreira (2013a) proposes an expected inflation deviation function, which basically depends on lagged inflation deviations and on the degree of credibility. The equation can assume the following form:…”

“…Besides, positive shocks to expected and observed inflation are followed by lower credibility levels. The relationships between credibility and inflation by means of the recursive and time-varying method applied in this paper can be translated into a nonlinear dependence or relation (Moreira, 2013a). It means that when there is a positive inflation shock, expected inflation becomes more dependent on lagged inflation levels and thus less anchored on inflation targets, so it is expressed as a declining credibility degree by the current index.…”

“…Additionally, expected inflation is an important variable that determines expected short-term interest rates, and thus the long-term interest rate, thereby causing dramatic effects on the output dynamics (Woodford, 2003). Moreover, the expected inflation dynamics can provide information on monetary policy credibility, as the latter depends on the weight of inflation targets (and of the lagged inflation) on expected inflation (Lalonde, 2005, Moreira, 2013a.…”