Mechanisms for Achieving Monetary Stability: Inflation Targeting versus the ERM.

First, the authors modify the Barro-Gordon model so that a credibility-stabilization trade-off will remain, even when a performance contract of the type envisaged by Carl Walsh (1995) is imposed on the central bank governor. They do this by modeling a real interest rate bias along with the inflation bias. Then, the authors discuss how various inflation penalties might actually be imposed on a central bank and ask whether 'inflation targeting' (supported by one or another of the penalties) is likely to bring a better resolution to the credibility-stabilization trade-off than the ERM. Copyright 1997 by Ohio State University Press.