Is Price Level Targeting a Robust Monetary Rule?

We study the design of monetary policy rules robust to model uncertainty across a set of well-established DSGE models with varied financial frictions. In our novel forward-looking approach, policymakers weight models based on relative forecasting performance. We find that models with frictions between households and banks forecast best during periods of financial turmoil while those with frictions between banks and firms perform best during tranquil periods. However, a model without financial frictions outperforms all models on average. The optimal robust policy is close to a price-level rule which is key when facing uncertainty over the nature of financial frictions.