02 January 2006

2005/06 Rybczynski Prize Essay (1)

The ECB’s monetary policy strategy: Trying to go beyond inflation targeting

Dr Thomas Mayer, Deutsche Bank

Inflation targeting has been the ruling monetary policy paradigm since the beginning of the 1990s. In recent years, however, its pitfalls have become evident: it has been blind to the emergence of record international current account imbalances and inflated asset prices. However, a new monetary policy paradigm has yet to emerge. The ECB’s monetary policy strategy was initially conceived as a bridge between the older paradigm of monetary targeting and its successor, inflation targeting. It could now provide a bridge between inflation targeting and a new paradigm which takes account of financial and asset market developments in monetary policy decisions. However, using the strategy this way would require the Council to be able to reconcile different signals from the two pillars of the strategy into a consistent interest rate (and communication) policy. For now, the Council seems to have difficulties doing this and hence tends to wait for the signals from the two pillars to coincide before taking action. To avoid policy inertia and mistakes, the ECB needs to resolve disagreements within the Council about the appropriate policy paradigm and reinforce research into a monetary policy strategy that goes beyond inflation targeting.

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