Nominal GDP Targeting for Developing Countries

NBER Working Paper No. 20898

Issued in January 2015

NBER Program(s):Economic Fluctuations and Growth, International Finance and Macroeconomics, Monetary Economics



The revival of interest in nominal GDP (NGDP) targeting has come in the context of large advanced economies. We consider the case for NGDP targeting for mid-sized developing countries, in light of their susceptibility to supply shocks and terms of trade shocks. For India, in particular, one major exogenous supply shock is the monsoon rains. NGDP targeting splits the impact of supply shocks automatically between inflation and real GDP growth. In the case of annual inflation targeting (IT), by contrast, the full impact of an adverse supply shock or terms of trade shock is felt as a loss in real GDP alone. NGDP targeting automatically accommodates supply shocks as most central banks with discretion would do anyway, while retaining the advantage of anchoring expectations as rules are designed to do. We outline a simple theoretical model and derive the condition under which an NGDP targeting regime would dominate other regimes such as annual IT for achieving objectives of output and price stability. We go on to estimate for the case of India the parameters needed to ascertain whether the condition holds, particularly the slope of the aggregate supply curve. Estimates suggest that the condition may indeed hold.

Acknowledgments

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Document Object Identifier (DOI): 10.3386/w20898

Published: Pranjul Bhandari & Jeffrey Frankel, 2017. "Nominal GDP targeting for developing countries," Research in Economics, vol 71(3), pages 491-506. citation courtesy of

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