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Working Paper 134 - Inflation Targeting, Exchange Rate Shocks and Output: Evidence from South Africa

11-Aug-2011

South African monetary policy authorities have in several occasions managed to bring the inflation rate within the target band of 3-6% after adopting inflation targeting framework in February 2000. Economic growth in these periods was not significant enough to reduce unemployment rate. In February 2010, the mandate of the South African Central bank was clarified with emphasis on taking a balanced approach, which considers economic growth when monetary policy authorities set interest rates. In the inflation targeting era, the Central Bank has left the exchange rate to be determined by the market forces making it more volatile. Given this context, we examine the differences in the responses of real interest rate to the exchange rate shocks and inflationary shocks, at the same time we examine how these shocks impact on output growth performance. Moreover we investigate assuming that the Central Bank has desire to increase reserves accumulation and unexpected high oil prices environment using Bayesian sign restriction approach.

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