Is Globalization Reducing the Ability of Central Banks to Control Inflation? A Literature Review with an Application to the Euro Area

Globalization influences inflation and the transmission channels of monetary policy in various ways. The effects of globalization on the ability of monetary policy to control inflation have been discussed intensively. However, in the light of recent experiences following the global financial crisis with extended periods of disinflation in many advanced economies, the question whether the ability of monetary policy to control inflation has suffered significantly from increasing globalization has received new relevance. Based on a review of the literature, this paper discusses whether globalization is reducing the ability of central banks to control inflation and draws conclusion for the current situation in the euro area. We find that globalization has made it more complicated for central banks to ensure price stability and that it has tended to reduce the ability of monetary policy to control inflation in the short- to medium-run. However, in principle the ECB is still able to control inflation but may have to tolerate deviations from its inflation target for somewhat longer periods.

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