Sensitivity of Interest Rates to Inflation and Exchange Rate in Poland: Implications for Direct Inflation Targeting


This study examines sensitivity of short-term interest rates to inflation and exchange rate in Poland over the past two decades. It aims to ascertain a relative role of inflation and exchange rate stability objectives for monetary policy. A model of short-term interbank interest rates as a function of CPI inflation and the nominal effective exchange rate is proposed and tested for stability, structural breaks and regime shifts. The Bai–Perron multiple breakpoint and two-state Markov regime switching tests are employed on monthly data for January 1994–December 2016 period. The tests point to a major structural break and to a regime change in the beginning of 2002. Its timing reflects the de facto inflation targeting becoming an effective and credible policy. The findings further suggest that the inflation targeting helped mitigate potential contagion effects of the 2008–2010 financial crisis.

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Source: as in Table 1

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  1. 1.

    The constant equilibrium real interest rate \(\bar{r}\) in our model is different from the Wicksellian long-term neutral interest rate that is derived from a mix of inflation and output gaps. In Eq. 1, the output gap and other exogenous factors affecting short-term interest rates are wrapped together with the real interest rate that is assumed to be constant over the examined period of time.

  2. 2.

    Empirical studies aimed at examining the NBP instrument rule generally conclude that the output gap has never been emphasized in the policy reaction function of Poland’s central bank (Kapuscinski et al., 2016; Mackiewicz-Łyziak, 2016).

  3. 3.

    The Bai–Perron multiple breakpoint test allows for detecting parametric instability and extracting discernible unexpected breaks in the time series regression (Bai and Perron, 2003).

  4. 4.

    Both 1D and 3M WIBOR are stationary at their levels. The Augmented Dickey Fuller test statistics are −5.87 for 1D and −3.38 for 3 M WIBOR, comparing with the MacKinnon one-sided critical p value of −2.87 at the 5% level.


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Correspondence to Lucjan T. Orlowski.

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Orlowski, L.T. Sensitivity of Interest Rates to Inflation and Exchange Rate in Poland: Implications for Direct Inflation Targeting. Comp Econ Stud 59, 545–560 (2017).

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  • direct inflation targeting
  • de facto inflation targeting
  • nominal effective exchange rate
  • convergence to the euro
  • Bai–Perron multiple breakpoint
  • Markov regime switching

JEL Classifications

  • E42
  • E43
  • P24