Ambrocio, G., A. Ferrero, E. Jokivuolle, N. McClung and K. Ristolainen (2026), ‘DP21368 To Change, or Not to Change the Inflation Target: Credibility is the Question‘, CEPR Discussion Paper No. 21368. CEPR Press, Paris & London. https://cepr.org/publications/dp21368.
Abstract
We study the tradeoff between a lower frequency of zero lower bound (ZLB) episodes and a loss of credibility for a central bank in relation to an increase of its inflation target. First, we present novel evidence on the relevance of both sides of the tradeoff for changing the inflation target from a survey of economists. Second, we analyze the ZLB-credibility tradeoff in a New Keynesian model featuring an occasionally-binding constraint on the nominal interest rate and a share of agents who form their expectations adaptively, which is negatively related to the degree of credibility of the central bank. For a given level of the inflation target, the ZLB frequency is higher for lower levels of credibility. A target raise aiming to reduce the ZLB frequency may backfire if a simultaneous loss of credibility occurs.