The purpose of this paper is to discuss the potential benefits of monetary policy rules for transition economies (TEs).
The paper discusses monetary policy rules, inflation targeting, political risk and ambiguity and monetary policy and ambiguity.
It is argued that the nominal interest rate may fail to be the appropriate instrument in such rules. One reason is the amount of non‐calculable political and economic risk inherent in TEs. These risks lead to a significant and volatile‐ambiguity premium in the interest rate over and above the normal risk premium, which makes the real equilibrium interest rate difficult to measure. Furthermore, ambiguity of the public regarding the monetary policy leads to an ambiguity premium on inflation.
The paper advocates a simple monetary policy rule based on a monetary aggregate like the money base minimizes the impact of ambiguity. It may therefore be the appropriate monetary policy for TEs.
