The Effects of Inflation Targeting on the Current Account: An Empirical Examination

Abstract

Empirical studies have found that inflation targeting leads to a fall in real interest rate, macroeconomic uncertainty, exchange rate volatility, and output volatility. Economic theory suggests that those elements should lead to a rise in investment and a fall in private savings. However, Rose (2007) reports very little association between current account and inflation targeting. This paper examines the effect of inflation targeting on current account. The results show that, consistent with economic theory, inflation targeting does negatively affect current account once global shocks have been properly accounted for. This evidence implies that exchange rate and balance of payment crises should not lead inflation targeting per se.

Keywords: Current Account, Inflation Targeting, Panel Data

JEL Classification: C33, E58, F32