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Interest Rate Rules in an Estimated Sticky Price Model

In: Monetary Policy Rules

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  • Julio J. Rotemberg
  • Michael Woodford

Abstract

This paper evaluates alternative rules by which the Fed may set interest rates using the small model of the U.S. economy estimated in Rotemberg and Woodford (1997). Our main substantive finding is that low and stable inflation together with stable interest rates can be achieved by letting the funds rate respond positively to inflation while also responding, with a coefficient bigger than one, to the lagged funds rate itself. A rule in which the interest rate is set in this extremely simple way does almost as well as a more complicated rule which is optimal in our setting, in the sense of maximizing expected utility to the representative household. Furthermore, when the funds rate responds to inflation only with a delay, due to delay in the availability of inflation data, performance under the rule is only slightly reduced.

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This chapter was published in:

  • John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1, October.
    This item is provided by National Bureau of Economic Research, Inc in its series NBER Chapters with number 7414.

    Handle: RePEc:nbr:nberch:7414

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