Nominal GDP versus price level targeting: An empirical evaluation

• Published in: Journal of economics and business 2020-05, Vol.109, p.105890, Article 105890
• Main Authors: Fackler, James S., McMillin, W. Douglas
• Format: Article
• Language: English
• Subjects: Central bank policies; Monetary policy objectives; Nominal GDP targeting; Price level targeting
• ISSN: 0148-6195; 1879-1735
• DOI: 10.1016/j.jeconbus.2019.105890

•Two alternatives to inflation targeting are discussed.•Policy simulations of price level and nominal GDP targets are analyzed.•Loss functions comparing policy alternatives are presented.•The analysis shows a preference for closely targeting nominal GDP. In response to the ongoing discussion in the literature of the appropriate framework for monetary policy, we compare two of the most frequently discussed alternatives to inflation targeting—targeting either the level of nominal GDP or the price level—within the context of a simple vector autoregressive (VAR) model. Our approach can be considered a constrained-discretion approach. The model is estimated using quarterly data over the period 1979:4-2003:4, a period in which the economy was buffeted by substantial supply and demand shocks. The paths of the federal funds rate, nominal GDP, real GDP, and the price level under nominal GDP and price level targeting are simulated over the 2004:1-2006:4 period. We evaluate nominal GDP and price level targeting by computing the values of simple loss functions. The loss function values indicate that closely targeting the path of nominal GDP based on 4.5% desired growth in nominal GDP produces noticeably lower losses in the simulation period than either price level targeting or a continuation of the implicit flexible inflation targeting monetary policy that characterized the estimation period.