Mechanisms for achieving monetary stability: inflation targeting versus the ERM

First we modify the Barro-Gordon model so that a credibility-stabilization trade-off will remain even when a performance contract of the type envisaged by Walsh (1995) is imposed on the central bank governor. We do this by modeling a real interest rate bias along with the inflation bias. Then we discuss how various inflation penalties might actually be imposed on a central bank and ask whether "inflation targeting (supported by one or another of the penalties) is likely to bring a better resolution to the credibility-stabilization trade-off than the ERM