Inflation target uncertainty amplifies economic downturns in disinflationary shocks.
Favorable cost-push shocks can lower inflation and boost output in certain economic models. However, if the central bank's inflation target is not clearly understood by the public, these shocks can actually lead to a decrease in output. This misunderstanding occurs when people mistakenly believe the target has been temporarily reduced. This effect is even stronger when the central bank is limited in its ability to adjust interest rates due to a lower bound.