Inflation Targeting And Interest Rate Rules

932 words - 4 pages

A Project Report by:
November 23, 2015
Group #3
Section E
November 23, 2015
Group #3
Section E
Kaustubh (PGP/19/264)
Kavya (PGP/19/265)
Kunal (PGP/19/266)
Madhu (PGP/19/267)


Introduction ------------------------------------------------------------------------------------------------------ 2
INFLATION TARGETING USING TAYLOR TYPE OF RULES -------------------------------------------- 2
RATIONALE FOR INFLATION TARGETING IN INDIA ----------------------------------------------------- 3
RATIONALE FOR NOMINAL GDP TARGETING IN INDIA ...view middle of the document...

Inflation is controlled by central bank using monetary policy, fixed exchange rates (usually replaced by floating rates), maintaining a representative money or wage controls.


First proposed by John B. Taylor, the Taylor Rule, also known as Taylor principle; is a monetary policy rule that dictates how much the central banks should change the nominal interest rates in response to the inflation, output (GDP) and other macro-economic factors. According to the rule, the nominal interest rate should respond to the divergences of the actual inflation rate to the targeted inflation rate and of actual Gross Domestic Product (GDP) to the potential Gross Domestic Product (GDP):


In this equation, is the target short-term nominal interest rate, is the rate of inflation as measured by the GDP deflator, is the desired rate of inflation, is the assumed equilibrium real interest rate, is the logarithm of real GDP, and is the logarithm of potential output, as determined by a linear trend.

In the equation, both and are determined by past data that describe the relationship between interest rate and inflation and the interest rate and GDP respectively, and are always positive. Hence, the rule recommends a high interest rate in cases where the inflation is above targeted inflation and/or when the GDP exceeds the potential GDP of the economy to reduce the inflationary pressures. Conversely, it recommends to lower the rates in opposite situation, thereby promoting growth. In situation of stagflation in which, the inflation is above the target while the output is below its potential, the rules specifies that relative weights be given to reducing inflation versus increasing output.
In effect, the rule states that when the inflation or the GDP increases form the target by 1% then the interest rates should increase by more than 1%. The rule acts as a tool to understand the...

Other Essays Like Inflation Targeting and Interest Rate Rules

Comparison of Inflation, China and the Us

1919 words - 8 pages possible. Therefore, the country’s policy makers will have to adopt inflation targeting monetary policy. Under this monetary policy, the target is to sustain inflation at a favourable range. The inflation target can only be attained through the Central Bank’s periodical adjustment on the interest rate target. The economy will adopt a contractionary monetary policy where the amount of money supplied in the economy is reduced making the interest rates

Inflation Essay

2212 words - 9 pages bank is struggling to control high rate of inflation. The central bank also announced that it was raising the repo rate to 7.75%.ugh repo rate, it will inject money to the banking system. BB also increases the reverse repo rate to 5.75. Through the reverse repo rate, it will absorb money from the banking system. However, it may show an upward trend as the government decided to raise oil price and power tariffs to cut the subsidy. This hike in oil price is responsible for non food inflation acceleration Since May. This stubborn inflation has forced the central bank to raise the key interest rate by 50 basis points last September, fourth time in the last year.

How Successful Is The Macroeconomic Framework Established By Emu? Answer By Focusing Specifically On Monetary Policy: Is The Ecb An Inflation-Targeting Central Bank? Evaluate Its Performance In The...

1505 words - 7 pages Eurozone by having an inflation target of just below 2%. To achieve this is uses the nominal interest rates as its policy instrument. The ECB undertakes a 2 pillar strategy in helping it achieve its target of price stability. The first pillar is known as the Economic pillar, which makes use of Taylor rules to guide the ECB in making the correct interest rate decisions. This is based upon making use of the analysis done on forecasts of the output gap

Understanding the Windows Server 2008 Registry

2554 words - 11 pages   achieve  the  target 24 15.4 Targeting the 
 Overnight Lending Rate How  the  Bank  of  Canada  attracts  buyers  or  sellers:   When  Bank  of  Canada  buys,  it  raises  demand  and   price  of  bonds,  which  in  turn  lowers  effective  interest   rate  on  bonds.    The  higher  price  and  lower  interest


1310 words - 6 pages , it may actually grow at a rate faster than that of the potential output in the economy, or real GDP. The belief is that this will drive up prices and hence, inflation. Low interest rates correspond with a high levels of money supply and allow for more investment in big business and new ideas which eventually leads to unsustainable levels of inflation as cheap money is available. Thecredit crisis of 2007 is a very good example of this at work

International Business

925 words - 4 pages HI5014 International Business Across Borders Foreign currency & exchange influences * The conversion of one currency into another currency and foreign currency also refers the global market where currencies are traded. * Exchange rate plays a vital role in trade. Exchange rate is the one of most important element for economic health of countries such as interest rate and inflation. * Exchange rate also affects one nation’s

Malaysia Current Inflation Situation

5581 words - 23 pages commercial bank. BNM control the inflation by increase the reserve ratio to reduce the capability to give credit to customer. By doing so, it also reduce the money supply in the market and tend to reduce the purchasing power of the costumers Next is the using the discount rate. BNM will influence the discount rate on loans and interest charge on the reserve to commercial bank. If the inflation goes up, BNM will increase the discount rate charge to

Financial Market

2653 words - 11 pages and forecasting 10 GDP 10 Interest Rate 10 Inflation Rate 11 Commodity Price 12 Trading strategy 12 Risk anticipation 13 Conclusion 13 References 13 Introduction Vietnam bank for industry and trade- Vietinbank was established in 1988, after the separate from the State Bank of Vietnam. Over more than 20 years of development and growth, Vietinbank is one of the largest commercial bank, holding key role in the current market in


1021 words - 5 pages enough, shortage of goods as consumers begin hoarding out concern that prices will increase in the future. Positive effects include ensuring central banks can adjust nominal rate of interest intended to mitigate recession and encouraging investments in non-monetary capital projects. The task of keeping the inflation low and stable is usually given to monetary authorities. Generally these monetary authorities are central banks that control monetary

Why Have the Euro and the European Central Bank Been so Successful?

1008 words - 5 pages are as follows: 1. A low inflation rate; 2. Sound public finances; 3. At least two years’ membership of the fixed exchange rate system (EMS) without tensions; and 4. Convergence of long term nominal interest rates towards the level of (at most) the three currencies with the lowest rates of inflation. Only countries which fulfilled the conditions could enter the monetary union. Only under strict rules countries could reach economic integration and

Inflation in the World

2375 words - 10 pages . High interest rates and slow growth of the money supply are the traditional ways through which central banks fight or prevent inflation, though they have different approaches. For instance, some follow a symmetrical inflation target while others only control inflation when it rises above a target, whether express or implied. Seventh, Monetarists emphasize keeping the growth rate of money steady, and using monetary policy to control inflation

Related Papers

Effect Of Interest Rate And Cash Reserve Ration On Inflation

2516 words - 11 pages , describing monetary policy rules based on nominal interest rates, has been written. As it is, however, well known, it is in fact the real and not the nominal interest rate, that can influence spending decisions of enterprises and households and thus inflation. One way, to describe the relationship between real interest rates and inflation, is based on our experience with the monetary theory of the price level. The quantity theory of money can be

Inflation Targetting Essay

2393 words - 10 pages Macro Economics Project Topic: Inflation Targeting and Interest Rules Section - D Group – 3 Members: Shankho Bag (PGP/19/225)     Soham Dutta (PGP/19/230) Sohom Karmakar (PGP/19/231) Sumanraj E (PGP/19/232) Sumeet Mahapatra (PGP/19/233) Abstract:In the recent past India has been grappling with high inflation and inflation stands highest amongst all the G-20 nations. Faced with a twin effect of declining growth

Price Stability Essay

4024 words - 17 pages exchange rate target because it shows where monetary policy is and where inflation is likely to be going. The targeting of monetary aggregates has the additional advantage of focusing policy on a quantity that a central bank can control quickly, easily, and directly. It is important to emphasize that the advantages of a monetary aggregate target are totally dependent upon the predictability of the relationship between the money target and the

Macroeconomics Essay

1322 words - 6 pages in all the AD-AS curves) Underlying inflation is a measure of inflation which rules out the one off effects such as natural catastrophe and the likes. This is a more accurate measure of the true inflation rate; hence it is also called the core inflation. The RBA would be more concerned with the underlying inflation rather than the CPI inflation. Normally, a high underlying inflation would lead to the RBA tightening monetary policy, i.e