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Optimal policy with occasionally binding constraints: piecewise linear solution methods

Author

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  • Harrison, Richard

    (Bank of England)

  • Waldron, Matt

    (Bank of England)

Abstract

This paper develops a piecewise linear toolkit for optimal policy analysis of linear rational expectations models, subject to occasionally binding constraints on (multiple) policy instruments and other variables. Optimal policy minimises a quadratic loss function under either commitment or discretion. The toolkit accounts for the presence of ‘anticipated disturbances’ to the model equations, allowing optimal policy analysis around scenarios or forecasts that are not produced using the model itself (for example, judgement-based forecasts such as those often produced by central banks). The flexibility and applicability of the toolkit to very large models is demonstrated in a variety of applications, including optimal policy experiments using a version of the Federal Reserve Board’s FRB/US model.

Suggested Citation

  • Harrison, Richard & Waldron, Matt, 2021. "Optimal policy with occasionally binding constraints: piecewise linear solution methods," Bank of England working papers 911, Bank of England.
    • Handle: RePEc:boe:boeewp:0911
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    Cited by:

    1. Oliver de Groot & Falk Mazelis & Roberto Motto & Annukka Ristiniemi, "undated". "A Toolkit for Computing Constrained Optimal Policy Projections (COPPs)," Working Papers 202112, University of Liverpool, Department of Economics.
    2. Harrison, Richard, 2021. "Flexible inflation targeting with active fiscal policy," Bank of England working papers 928, Bank of England.

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    More about this item

    Keywords

    Optimal policy; commitment; discretion; occasionally binding constraints;
    All these keywords.

    JEL classification:

    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination

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