A FLEXIBLE INFLATION TARGETING REGIME
GOVERNOR ØYSTEIN OLSEN, CME, 11 OCTOBER 2016
Performance
2
Unemployment. Percent Inflation. Percent
Sources: Norwegian Labour and Welfare Administration (NAV), Statistics Norway and Norges Bank
-2 0 2 4 6 8 10 12 14
-2 0 2 4 6 8 10 12 14
1981 1988 1995 2002 2009 2016
CPI CPI-ATE Inflation target
0 1 2 3 4 5 6 7
0 1 2 3 4 5 6 7
1980 1987 1994 2001 2008 2015
International interest rates
Long-term interest rates. 14 OECD countries
1). Percent
0 2 4 6 8 10 12
0 2 4 6 8 10 12
1984 1989 1994 1999 2004 2009 2014
Real interest rate Nominal interest rate
1) US, Germany, France, Italy, UK, Japan, Netherlands, Austria, Belgium, Sweden, Denmark, Canada, Switzerland and Norway. Unweighted average.
Source: OECD 3
Forces driving the fall in the global real interest rate
4 Global real interest rate
Global savings and investment
Global investment Global savings
r*
Relative price of capital Public investment Lower growth prospects Demographic trends Greater income inequality Deleveraging
Persistent uncertainty
Increased savings in emerging economies and oil-producing countries
Uncertain effect of policy rate
Target:
Minimise 𝐿𝑡= 𝐸𝑡 (𝑦𝑡 − 𝑦∗)2 = (𝐸𝑡 𝑦𝑡 − 𝑦∗)2+𝑣𝑎𝑟𝑡(𝑦𝑡)
Effect of policy rate on economy:
𝑦𝑡 = 𝑦∗ − 𝛼𝑡𝑟𝑡+ 𝑥𝑡
𝛼𝑡 = 𝛼0+ 𝜀𝑡, 𝜀𝑡~𝑁(0, 𝜎2)
5 Effect of policy rate (α)
Degree of uncertainty (σ2) α0
Monetary policy response when xt changes:
a) Uncertainty about effect of policy rate σ2 > 0, 𝑟𝑡 = 𝛼 1
0+ 𝜎2/𝛼0𝑥𝑡
b) No uncertainty about effect of policy rate σ2 = 0, 𝑟𝑡 = 𝛼1
0𝑥𝑡
Monetary policy and uncertainty
-4 -2 0 2 4 6 8 10
6
-4 -2 0 2 4 6 8 10
-4 -2 0 2 4 6 8 10
Inflation Policy rate
Output gap
Active monetary policy to counteract shocks
7
-4 -2 0 2 4 6 8 10
-4 -2 0 2 4 6 8 10
-4 -2 0 2 4 6 8 10
Inflation Policy rate
Output gap
Monetary policy and uncertainty
A more cautious policy response reduces uncertainty
Estimated path for total consumption during recessions
8
Number of quarters from start of recession. Percent
1) Strong growth is defined as a rise of more than one standard deviation above the average. The rise is the average rise in the five years preceding the start of the recession.
Sources: BIS, Federal Reserve Bank of Dallas, OECD, Statistics Norway and Norges Bank
-4 -2 0 2 4 6 8 10 12
-4 -2 0 2 4 6 8 10 12
1 3 5 7 9 11 13 15
Average consumption path
Path after strong pre-recession rise in debt-to-GDP ratio
Monetary policy and financial stability
-4 -2 0 2 4 6 8 10
9
-4 -2 0 2 4 6 8 10
-4 -2 0 2 4 6 8 10
Inflation Policy rate
Output gap
Financial imbalances give rise to tail risk
-4 -2 0 2 4 6 8 10
10
-4 -2 0 2 4 6 8 10
-4 -2 0 2 4 6 8 10
Inflation Policy rate
Output gap
