Modelling Monetary Policy: Inflation Targeting in Practice

This paper estimates a simple structural model of monetary policy in the UK focusing on the policy of inflation targeting introduced in 1992. We find that: (i) the adoption of inflation targeting led to significant changes in monetary policy; (ii) post-1992 monetary policy is asymmetric as policy-makers respond more to upward deviation of inflation away from the target; (iii) post-1992 policy-makers may be attempting to keep inflation within the 1.4%-2.6% range rather than pursuing a point target of 2.5% and (iv) the response of monetary policy to inflation is nonlinear as interest rates respond more when inflation is further from the target. Copyright (c) The London School of Economics and Political Science 2004.