Faculty of Economics and Business Administration Publications Database

The Performance of Forecast-Based Monetary Policy Rules under Model Uncertainty

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Authors:
Levin, Andrew
Williams, John C.
Source:
Volume: 93
Number: 3
Pages: 622 - 645
Month: June
ISSN-Print: 0002-8282
Link External Source: Online Version
Year: 2003
Keywords: Inflation forecast targeting; Optimal monetary policy; Multiple equilibria
Abstract: We investigate the performance of forecast-based monetary policy rules using five macroeconomic models that reflect a wide range of views on aggregate dynamics. We identify the key characteristics of rules that are robust to model uncertainty: such rules respond to the one-year ahead inflation forecast and to the current output gap, and incorporate a substantial degree of policy inertia. In contrast, rules with longer forecast horizons are less robust and are prone to generating indeterminacy. In light of these results, we identify a robust benchmark rule that performs very well in all five models over a wide range of policy preferences.
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