Anticipation of central banks' adoption of inflation targeting and its effect on inflation

Abstract

We construct an empirical test of whether the anticipation of adoption of inflation targeting affects the inflation rate. We observe that most of the central banks adopt the regime after first achieving significant disinflation. With pre-inflation-targeting-disinflation, initial targets are met with success and the new regime gains credibility. Working with data for 114 emerging market, advanced and low-income economies, we identify the effect using forward-looking dynamic panel data models in a difference-in-difference framework. We find that inflation targeting is successful in locking-in already low inflation rather than reducing high inflation. The analysis has important implications for central banks looking forward to adoption of inflation targeting.