Optimal monetary policy inertia
AbstractThis paper considers the desirability of the observed tendency of central banks to adjust interest rates only gradually in response to changes in economic conditions. It shows, in the context of a simple model of optimizing private-sector behavior, that such inertial behavior on the part of the central bank may indeed be optimal, in the sense of minimizing a loss function that penalizes inflation variations, deviations of output from potential, and interest-rate variability. Sluggish adjustment characterizes an optimal policy commitment, even though no such inertia would be present in the case of a reputationless (Markovian) equilibrium under discretion. Optimal interest-rate feedback rules are also characterized, and shown to involve substantial positive coefficients on lagged interest rates. This provides a theoretical explanation for the numerical results obtained by Rotemberg and Woodford (1998) in their quantitative model of the U.S. economy. --
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by Center for Financial Studies (CFS) in its series CFS Working Paper Series with number 1999/09.
Date of creation: 1999
Date of revision:
Contact details of provider:
Postal: House of Finance, Grüneburgplatz 1, HPF H5, D-60323 Frankfurt am Main
Phone: +49 (0)69 798-30050
Fax: +49 (0)69 798-30077
Web page: http://www.ifk-cfs.de/
More information through EDIRC
monetary policy; interest-rate rules; gradualism; commitment;
Find related papers by JEL classification:
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Rudebusch, Glenn D., 1995.
"Federal Reserve interest rate targeting, rational expectations, and the term structure,"
Journal of Monetary Economics,
Elsevier, vol. 35(2), pages 245-274, April.
- Glenn D. Rudebusch, 1995. "Federal Reserve interest rate targeting, rational expectations, and the term structure," Working Papers in Applied Economic Theory 95-02, Federal Reserve Bank of San Francisco.
- Levine, Paul L, 1991.
"Should Rules be Simple?,"
CEPR Discussion Papers
515, C.E.P.R. Discussion Papers.
- N. Gregory Mankiw, 1988.
"The Optimal Collection of Seigniorage: Theory and Evidence,"
NBER Working Papers
2270, National Bureau of Economic Research, Inc.
- Mankiw, N. Gregory, 1987. "The optimal collection of seigniorage : Theory and evidence," Journal of Monetary Economics, Elsevier, vol. 20(2), pages 327-341, September.
- Fair, Ray C, 1978.
"The Sensitivity of Fiscal Policy Effects to Assumptions about the Behavior of the Federal Reserve,"
Econometric Society, vol. 46(5), pages 1165-79, September.
- Ray C. Fair, 1977. "The Sensitivity of Fiscal-Policy Effects to Assumptions about the Behavior of the Federal Reserve," Cowles Foundation Discussion Papers 446, Cowles Foundation for Research in Economics, Yale University.
- Yun, Tack, 1996. "Nominal price rigidity, money supply endogeneity, and business cycles," Journal of Monetary Economics, Elsevier, vol. 37(2-3), pages 345-370, April.
- Ray C. Fair & E. Philip Howrey, 1995.
"Evaluating Alternative Monetary Policy Rules,"
Cowles Foundation Discussion Papers
1091, Cowles Foundation for Research in Economics, Yale University.
- Fuhrer, Jeffrey C & Moore, George R, 1995. "Monetary Policy Trade-offs and the Correlation between Nominal Interest Rates and Real Output," American Economic Review, American Economic Association, vol. 85(1), pages 219-39, March.
- Ben S. Bernanke & Michael Woodford, 1997.
"Inflation forecasts and monetary policy,"
Federal Reserve Bank of Cleveland, pages 653-686.
- Caplin, Andrew & Leahy, John, 1996. "Monetary Policy as a Process of Search," American Economic Review, American Economic Association, vol. 86(4), pages 689-702, September.
- Robert J. Barro & David B. Gordon, 1983.
"A Positive Theory of Monetary Policy in a Natural-Rate Model,"
NBER Working Papers
0807, National Bureau of Economic Research, Inc.
- Barro, Robert J & Gordon, David B, 1983. "A Positive Theory of Monetary Policy in a Natural Rate Model," Journal of Political Economy, University of Chicago Press, vol. 91(4), pages 589-610, August.
- Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
- Roberts, John M, 1995. "New Keynesian Economics and the Phillips Curve," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 27(4), pages 975-84, November.
- Currie,David & Levine,Paul, 2009.
"Rules, Reputation and Macroeconomic Policy Coordination,"
Cambridge University Press, number 9780521104609, December.
- Currie,David & Levine,Paul, 1993. "Rules, Reputation and Macroeconomic Policy Coordination," Cambridge Books, Cambridge University Press, number 9780521441964, December.
- Michael T. Kiley, 1998. "Monetary policy under neoclassical and New-Keynesian Phillips Curves, with an application to price level and inflation targeting," Finance and Economics Discussion Series 1998-27, Board of Governors of the Federal Reserve System (U.S.).
- Summers, Lawrence, 1991. "How Should Long-Term Monetary Policy Be Determined? Panel Discussion," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 23(3), pages 625-31, August.
- Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
- Sargent, Thomas J & Wallace, Neil, 1975. ""Rational" Expectations, the Optimal Monetary Instrument, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 83(2), pages 241-54, April.
- Julio Rotemberg & Michael Woodford, 1997. "An Optimization-Based Econometric Framework for the Evaluation of Monetary Policy," NBER Chapters, in: NBER Macroeconomics Annual 1997, Volume 12, pages 297-361 National Bureau of Economic Research, Inc.
- Walsh, Carl E, 1995. "Optimal Contracts for Central Bankers," American Economic Review, American Economic Association, vol. 85(1), pages 150-67, March.
This item has more than 25 citations. To prevent cluttering this page, these citations are listed on a separate page. reading lists or Wikipedia pages:
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (ZBW - German National Library of Economics).
If references are entirely missing, you can add them using this form.