Heterogeneity across emerging market central bank reaction functions

Abstract

The purpose of this study is to analyze monetary policy reaction functions of inflation targeting emergingmarket economies. Heterogeneity across central bank behavior is modelled using dynamic commoncorrelated effects estimator in a panel data framework of 15 countries. The empirical method allows us toobtain country speciŞc coefŞcients and shows differences across central bank reaction functions. Modelresults imply that central banks behave according to an extended Taylor rule and respond to deviation ofinflation from the target, output gap, real exchange rate and external Şnancial conditions. The study Şndsthat emerging market central banks consider not only price stability, but alsoŞnancial stability in settingof interest rates.