Working Paper: NBER ID: w9419
Authors: Marc P. Giannoni; Michael Woodford
Abstract: This paper proposes a general method for deriving an optimal monetary policy rule in the case of a dynamic linear rational-expectations model and a quadratic objective function for policy. A commitment to a rule of the type proposed results in a determinate equilibrium in which the responses to shocks are optimal. Furthermore, the optimality of the proposed policy rule is independent of the specification of the stochastic disturbances. Finally, the proposed rules can be justified from a timeless perspective,' so that commitment to such a rule need not imply time-inconsistent policy. We show that under fairly general condition, optimal policy can by represented by a generalized Taylor rule, in which however the relation between the interest-rate instrument and the other target variables is not purely contemporaneous, as in Taylor's specification. We also offer general conditions under which optimal policy can be represented by a 'super-inertial' interest-rate rule, and under which it can be represented by a pure 'targeting rule' that makes no explicit reference to the path of the instrument.
Keywords: monetary policy; interest rates; Taylor rule; rational expectations
JEL Codes: E52; E61
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| commitment to an optimal monetary policy rule (E61) | determinate equilibrium (D50) |
| optimal monetary policy rule (E52) | effectiveness of monetary policy in achieving stabilization objectives (E63) |
| past values of the interest rate (E43) | current policy settings (E64) |