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Bubble-free interest-rate rules

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  • Loisel, O.

Abstract

This paper designs, for a broad class of rational-expectations dynamic stochastic general-equilibrium models, interest-rate rules which not only ensure the local determinacy of the targeted equilibrium within the neighbourhood of the targeted steady state, but also prevent the economy from gradually leaving this neighbourhood. We show that in most models these interest-rate rules are necessarily forward-looking (i.e. make necessarily the interest rate conditional on the private agents' expectations), while in all models non-forward-looking interest-rate rules exist which ensure only the local determinacy of the targeted equilibrium. We also discuss the robustness of the effectiveness of these rules to departures from various assumptions and show in particular that they can still be effective when the central bank has imperfect knowledge of the model's structural parameters. We finally argue that such rules could also serve as a useful guide in the reflections on the best monetary policy reaction to perceived asset-price bubbles or exchange-rate misalignments.

Suggested Citation

  • Loisel, O., 2006. "Bubble-free interest-rate rules," Working papers 161, Banque de France.
  • Handle: RePEc:bfr:banfra:161
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    Cited by:

    1. Bernardino Adão & Isabel Horta Correia & Pedro Teles, 2004. "Monetary Policy with Single Instrument Feedback Rules," Working Papers w200419, Banco de Portugal, Economics and Research Department.
    2. John H. Cochrane, 2011. "Determinacy and Identification with Taylor Rules," Journal of Political Economy, University of Chicago Press, vol. 119(3), pages 565-615.
    3. Adão, Bernardino & Correia, Isabel & Teles, Pedro, 2014. "Short and long interest rate targets," Journal of Monetary Economics, Elsevier, pages 95-107.
    4. Adão, Bernardino & Correia, Isabel & Teles, Pedro, 2014. "Short and long interest rate targets," Journal of Monetary Economics, Elsevier, pages 95-107.
    5. Gomes, Orlando & Mendes, Diana A. & Mendes, Vivaldo M., 2008. "Bounded rational expectations and the stability of interest rate policy," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 387(15), pages 3882-3890.

    More about this item

    Keywords

    DSGE models ; Interest-rate rules ; Local determinacy ; Global determinacy ; Rational bubbles;

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • 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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