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Some Notes on Monetary Policy Rules with Uncertainty

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  • Gabriel Srour
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    Abstract

    The author explores the role that Taylor-type rules can play in monetary policy, given the degree of uncertainty in the economy. The optimal rule is derived from a simple infinite-horizon model of the monetary transmission mechanism, with only additive uncertainty. The author then examines how this rule ought to be modified when there is uncertainty about the parameters, the time lags, and the nature of shocks. Quantitative evaluations are subsequently provided. In particular, it is shown that if the degree of persistence of inflation in the Phillips curve is not high, a simple rule such as the original Taylor rule that offsets demand shocks and puts a relatively small weight on inflation shocks may be an appropriate benchmark for the conduct of monetary policy. Conversely, it is argued that if the degree of persistence of inflation in the Phillips curve is high, then finding a Taylor-type rule that can act as a benchmark for monetary policy is likely to be difficult.

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    Bibliographic Info

    Paper provided by Bank of Canada in its series Working Papers with number 03-16.

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    Length: 59 pages
    Date of creation: 2003
    Date of revision:
    Handle: RePEc:bca:bocawp:03-16

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    Related research

    Keywords: Uncertainty and monetary policy;

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    References

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    1. Athanasios Orphanides & Simon van Norden, 2001. "The Unreliability of Output Gap Estimates in Real Time," CIRANO Working Papers 2001s-57, CIRANO.
    2. Lars E O Svensson, 1996. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," Bank of England working papers 56, Bank of England.
    3. Laurence Ball, 1997. "Efficient rules for monetary policy," Reserve Bank of New Zealand Discussion Paper Series G97/3, Reserve Bank of New Zealand.
    4. Srour, Gabriel, 1999. "Inflation Targeting under Uncertainty," Technical Reports 85, Bank of Canada.
    5. Eric Swanson, 2000. "On Signal Extraction and Non-Certainty-Equivalence in Optimal Monetary Policy Rules," Econometric Society World Congress 2000 Contributed Papers 1085, Econometric Society.
    6. Peter Isard & Douglas Laxton & Ann-Charlotte Eliasson, 1999. "Simple Monetary Policy Rules Under Model Uncertainty," International Tax and Public Finance, Springer, vol. 6(4), pages 537-577, November.
    7. Arturo Estrella & Frederic S. Mishkin, 1999. "Rethinking the Role of NAIRU in Monetary Policy: Implications of Model Formulation and Uncertainty," NBER Chapters, in: Monetary Policy Rules, pages 405-436 National Bureau of Economic Research, Inc.
    8. Denise Côté & John Kuszczak & Jean-Paul Lam & Ying Liu & Pierre St-Amant, 2004. "The performance and robustness of simple monetary policy rules in models of the Canadian economy," Canadian Journal of Economics, Canadian Economics Association, vol. 37(4), pages 978-998, November.
    9. Craine, Roger, 1979. "Optimal monetary policy with uncertainty," Journal of Economic Dynamics and Control, Elsevier, vol. 1(1), pages 59-83, February.
    10. Andrew Levin & Volker Wieland & John C. Williams, 1998. "Robustness of Simple Monetary Policy Rules under Model Uncertainty," NBER Working Papers 6570, National Bureau of Economic Research, Inc.
    11. Athanasios Orphanides, 1998. "Monetary policy evaluation with noisy information," Finance and Economics Discussion Series 1998-50, Board of Governors of the Federal Reserve System (U.S.).
    12. Brian Sack, 1998. "Uncertainty, learning, and gradual monetary policy," Finance and Economics Discussion Series 1998-34, Board of Governors of the Federal Reserve System (U.S.).
    13. Jamie Armour & Ben Fung & Dinah Maclean, 2002. "Taylor Rules in the Quarterly Projection Model," Working Papers 02-1, Bank of Canada.
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    Cited by:
    1. Christopher Martin & Costas Milas, 2004. "Uncertainty and UK Monetary Policy," Public Policy Discussion Papers 04-11, Economics and Finance Section, School of Social Sciences, Brunel University.

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