Analyzing inflation target misses

Abstract

This thesis identifies the roles of both domestic and global factors in missing the inflation targets with the help of Arellano-Bond fixed effects estimation. Central bank credibility has the largest absolute effect on target misses; exchange rate and fiscal surplus ratio to GDP have the medium absolute effect on target misses. Oil prices seem to have significant but limited effect. This thesis also examines whether there is any difference in the formation of inflation expectations when countries miss their inflation targets with the help of linear ordinary least squares estimation. The results may suggest that when CB does not achieve its target, the total weight put on the lagged inflation will be higher than that of the inflation target. Thus, in this analysis, inflation target misses are causing inflation inertia which leads to a more costly disinflationary monetary policy in the short run. Furthermore, there is some evidence of the asymmetry between inflation target misses in the sense that the weights put on overshooting and undershooting are not the same.