Working Paper: NBER ID: w10612
Authors: Bennett T. McCallum; Edward Nelson
Abstract: Svensson (JEL, 2003) argues strongly that specific targeting rules first order optimality conditions for a specific objective function and model are normatively superior to instrument rules for the conduct of monetary policy. That argument is based largely upon four main objections to the latter plus a claim concerning the relative interest-instrument variability entailed by the two approaches. The present paper considers the four objections in turn, and advances arguments that contradict all of them. Then in the paper's analytical sections, it is demonstrated that the variability claim is incorrect, for a neo-canonical model and also for a variant with one-period-ahead plans used by Svensson, providing that the same decision-making errors are relevant under the two alternative approaches. Arguments relating to general targeting rules and actual central bank practice are also included.
Keywords: No keywords provided
JEL Codes: E52; E58
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Instrument rules with strong feedback (C36) | Variability in interest rates (E43) |
| Using an instrument rule (C36) | Policy objectives (L21) |
| Instrument rules (C26) | Performance of instrument rules (C36) |
| Lack of commitment to specific objective functions (L21) | Practical application of Svensson's argument (E65) |
| Targeting rules (M38) | Advantages of targeting rules (E61) |