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Learning about the Term Structure and Optimal Rules for Inflation Targeting

  • MEWAEL F. TESFASELASSIE
  • ERIC SCHALING
  • SYLVESTER EIJFFINGER

In this paper we incorporate the term structure of interest rates in a standard inflation forecast targeting framework.We find that under flexible inflation targeting and uncertainty in the degree of persistence in the economy, allowing for active learning possibilities has e®ects on the optimal interest rate rule followed by the central bank.For a wide range of possible initial beliefs about the unknown parameter, the dynamically optimal rule is in general more activist, in the sense of responding aggressively to the state of the economy, than the myopic rule for small to moderate deviations of the state variable from its target.On the other hand, for large deviations, the optimal policy is less activist than the myopic and the certainty equivalence policies.

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File URL: http://hdl.handle.net/10.1111/j.1538-4616.2011.00463.x
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Article provided by Blackwell Publishing in its journal Journal of Money, Credit and Banking.

Volume (Year): 43 (2011)
Issue (Month): 8 (December)
Pages: 1685-1706

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Handle: RePEc:mcb:jmoncb:v:43:y:2011:i:8:p:1685-1706
Contact details of provider: Web page: http://www.blackwellpublishing.com/journal.asp?ref=0022-2879

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  1. James B. Bullard & Kaushik Mitra, 2002. "Learning about monetary policy rules," Working Papers 2000-001, Federal Reserve Bank of St. Louis.
  2. James B. Bullard & Eric Schaling, 2006. "Monetary policy, determinacy, and learnability in a two-block world economy," Working Papers 2006-038, Federal Reserve Bank of St. Louis.
  3. Glenn D. Rudebusch & Lars E.O. Svensson, 1999. "Eurosystem Monetary Targeting: Lessons from U.S. Data," NBER Working Papers 7179, National Bureau of Economic Research, Inc.
  4. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "The science of monetary policy: A new Keynesian perspective," Economics Working Papers 356, Department of Economics and Business, Universitat Pompeu Fabra, revised Apr 1999.
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  6. Wieland, Volker, 1999. "Monetary policy, parameter uncertainty and optimal learning," ZEI Working Papers B 09-1999, University of Bonn, ZEI - Center for European Integration Studies.
  7. Vitor Gaspar & Frank Smets & David Vestin, 2006. "Adaptive Learning, Persistence, and Optimal Monetary Policy," Journal of the European Economic Association, MIT Press, vol. 4(2-3), pages 376-385, 04-05.
  8. Schaling, Eric, 2004. "The Nonlinear Phillips Curve and Inflation Forecast Targeting: Symmetric versus Asymmetric Monetary Policy Rules," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(3), pages 361-86, June.
  9. Ellison, Martin, 2006. "The learning cost of interest rate reversals," Journal of Monetary Economics, Elsevier, vol. 53(8), pages 1895-1907, November.
  10. Svensson, Lars E.O., 1997. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," Seminar Papers 615, Stockholm University, Institute for International Economic Studies.
  11. Schaling , Eric & Eijffinger , Sylvester & Tesfaselassie , Mewael, 2004. "Heterogeneous information about the term structure, least-squares learning and optimal rules for inflation targeting," Research Discussion Papers 23/2004, Bank of Finland.
  12. Pollock, D. S. G., 2003. "Recursive estimation in econometrics," Computational Statistics & Data Analysis, Elsevier, vol. 44(1-2), pages 37-75, October.
  13. Yetman, James, 2000. "Probing Potential Output: Monetary Policy, Credibility, and Optimal Learning under Uncertainty," Staff Working Papers 00-10, Bank of Canada.
  14. James Bullard & Eric Schaling, 2005. "Monetary Policy, Determinacy, and Learnability in the Open Economy," Working Papers 11, Economic Research Southern Africa.
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  17. Stephen Pollock, 2002. "Recursive Estimation in Econometrics," Working Papers 462, Queen Mary University of London, School of Economics and Finance.
  18. Martin Ellison & Natacha Valla, 2000. "Learning, Uncertainty And Central Bank Activism In An Economy With Strategic Interactions," Computing in Economics and Finance 2000 183, Society for Computational Economics.
  19. Thomas Sargent & Noah Williams & Tao Zha, 2009. "The Conquest of South American Inflation," Journal of Political Economy, University of Chicago Press, vol. 117(2), pages 211-256, 04.
  20. Eric Schaling, James Bullard, 2001. "New economy : new policy rules?," Computing in Economics and Finance 2001 53, Society for Computational Economics.
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  25. Kenneth L. Judd, 1998. "Numerical Methods in Economics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262100711, March.
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