Abstract
In this project, we investigate New Zealand's rate of inflation and its deviations from target using two new methods. Firstly, Rowe's (2002) method of examining the correlations between inflation deviations from target and indicators where any significant correlations, whether in a simple or multivariate framework, will be evidence against an optimal policy setting; secondly, we test Cukierman and Gerlach's (2003) and Ruge-Murcia's (2001) new inflation bias hypothesis for New Zealand. In contrast to Kydland and Prescott's (1977) and Barro and Gordon's (1983) time inconsistency explanation of inflation bias, Ruge-Murcia, Cukierman and Gerlach postulates that even if central banks target the natural rate of unemployment or the potential level of output, some inflation bias could still exist if their loss function is asymmetric. Finally this study looks at how actual inflation error from 1982 to 2003 could help improve inflation targeting for the Reserve Bank of New Zealand in the future