The Case for a Positive Euro Area Inflation Target: Evidence from France, Germany and Italy

1 Pages Posted: 9 Sep 2021

See all articles by Klaus Adam

Klaus Adam

University of Mannheim; European Central Bank (ECB) - Department of Research; Centre for Economic Policy Research (CEPR)

Erwan Gautier

Banque de France

Sergio Santoro

Bank of Italy

Henning Weber

Deutsche Bundesbank

Date Written: 2021

Abstract

Using micro price data underlying the Harmonized Index of Consumer Prices in France, Germany and Italy, we estimate relative price trends over the product life cycle and show that minimizing price and mark-up distortions in the presence of these trends requires targeting a significantly positive inflation target. Relative price trends shift the optimal in ation target up from a level of zero percent, as suggested by the standard sticky price literature, to a range of 1.1%- 2.1% in France, 1.2%-2.0% in Germany, 0.8%-1.0% in Italy, and 1.1-1.7% in the Euro Area (three country average). Differences across countries emerge due to systematic differences in the strength of relative price trends. Other considerations not taken into account in the present paper may push up the optimal inflation targets further. The welfare costs associated with targeting zero inflation turn out to be substantial and range between 2.1% and 4.5% of consumption in present-value terms.

Keywords: Optimal inflation target, micro price trends, welfare

JEL Classification: E31, E52

Suggested Citation

Adam, Klaus and Gautier, Erwan and Santoro, Sergio and Weber, Henning, The Case for a Positive Euro Area Inflation Target: Evidence from France, Germany and Italy (2021). Deutsche Bundesbank Discussion Paper No. 26/2021, Available at SSRN: https://ssrn.com/abstract=3920154 or http://dx.doi.org/10.2139/ssrn.3920154

Klaus Adam (Contact Author)

University of Mannheim ( email )

Department of Economics
L7 ,3-5
Mannheim, 68131
Germany

HOME PAGE: http://adam.vwl.uni-mannheim.de/1528.0.html

European Central Bank (ECB) - Department of Research ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany
+49 69 1344 6597 (Phone)

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Erwan Gautier

Banque de France ( email )

Paris
France

Sergio Santoro

Bank of Italy ( email )

Via Nazionale 91
Rome, 00184
Italy

Henning Weber

Deutsche Bundesbank ( email )

Wilhelm-Epstein-Str. 14
Frankfurt/Main, 60431
Germany

HOME PAGE: http://www.bundesbank.de/en/henning-weber

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