Pedersen on Price Level Targeting
My good colleague Jens N. Pedersen has today successfully defended his master thesis at the Department on Economics at the University of Copenhagen. Jens’ thesis should be of interest to Market Monetarists. Here is a bit from the introduction of Jens’ thesis “Price Level Targeting - Optimal anchoring of expectations in a New Keynesian model”: “The recent experience of the Financial Crisis has highlighted the potential drawbacks of a policy targeting the changes and not the level of the prices. When the zero lower bound on the nominal interest rate binds, the inflation target presents a lower constraint on the real interest rate because inflation expectations are anchored at the target. Following the crisis, a number of major central banks have been forced to keep the policy rate close to zero and in the mean time use unconventional tools to keep monetary policy effective. Price level targeting, however, presents the optimal way of anchoring expectations by increasing inflation expectations in a deflationary environment and vice versa. This improves monetary policy in general and in a zero interest rate environment, which keeps the conventional interest rate operating procedure effective. This thesis attempts to study, how the central bank can optimally utilise the expectational channel, when setting monetary policy, by announcing a price level target. The investigation will take on both a theoretical and an empirical stand point. The theoretical part of the thesis revisits the arguments for and against adopting price level targeting. The empirical part of the thesis attempts to evaluate the optimality of monetary policy by inspecting the statistical properties of the price level.” I am grateful to Jens for always challenging some of my views on monetary policy and Jens is always an excellent sparring partner not only on monetary issues but also on such interesting subjects as sportometrics and fine dining. So dear readers please have a look at Jens’ excellent thesis. And to Jens - Congratulations! It is well-deserved and you can truly be proud of your thesis.