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A Bayesian approach to optimal monetary policy with parameter and model uncertainty

  • Cogley, Timothy
  • De Paoli, Bianca
  • Matthes, Christian
  • Nikolov, Kalin
  • Yates, Tony

This paper undertakes a Bayesian analysis of optimal monetary policy for the U.K. We estimate a suite of monetary-policy models that include both forward- and backward-looking representations as well as large- and small-scale models. We find an optimal simple Taylor-type rule that accounts for both model and parameter uncertainty. For the most part, backward-looking models are highly fault tolerant with respect to policies optimized for forward-looking representations, while forward-looking models have low fault tolerance with respect to policies optimized for backward-looking representations. In addition, backward-looking models often have lower posterior probabilities than forward-looking models. Bayesian policies therefore have characteristics suitable for inflation and output stabilization in forward-looking models.

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File URL: http://www.sciencedirect.com/science/article/pii/S0165188911000455
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Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 35 (2011)
Issue (Month): 12 ()
Pages: 2186-2212

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Handle: RePEc:eee:dyncon:v:35:y:2011:i:12:p:2186-2212
DOI: 10.1016/j.jedc.2011.02.006
Contact details of provider: Web page: http://www.elsevier.com/locate/jedc

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