Transition to Inflation Targeting in the Export-Oriented Economies

Inflation targeting is a relatively new phenomenon, especially in the context of developing economies. This monetary policy framework has already shown its outstanding perfomance in advanced countries, but its effectiveness remains still questionable from the point of view of emerging market structures. The goal of this paper is to provide an answer to this question with respect to export-oriented economies. The theoretical model is constructed to find an optimal interaction scheme for fiscal and monetary authorities to minimize the social loss. Due to external aggregate supply shocks, which are particularly widespread in export-oriented economies, the central bank should implement flexible inflation targeting, but not the strict one. In other words, monetary authorities should be concerned not only about low inflation, but also decrease the difference between actual output and its potential level. The results of the model show that the higher is the share of export in GDP, the more sensitive is the economy to exchange rate fluctuations and the less is the inсentive of the central bank to change the interest rate to address different government actions.