Shaken, not Stirred: Comparing the Effectiveness of Pure and Hybrid Inflation Targeting

Abstract

The study explores how the choice between pure and mixed (hybrid) inflation targeting affects the likelihood of achieving the announced inflation target achievement. Pure inflation targeting is deemed to be a regime under which inflation is the only variable in a central bank’s objective function, while hybrid targeting is an alternative regime, which, in addition to inflation, includes the exchange rate in monetary authorities’ objective function. Modeling is conducted on panel data of 32 inflation targeting countries. The cluster analysis method is applied to classify countries with respect to the regime used: pure or hybrid. Then a binary choice model of the probability of achieving the inflation target is estimated. The use of the hybrid option of inflation targeting is found to be associated with the increase in this probability, suggesting a higher effectiveness of this regime versus pure inflation targeting.