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Learning About the Term Structure and Optimal Rules for Inflation Targeting

  • Eijffinger, Sylvester C W
  • Schaling, Eric
  • Tesfaselassie, Mewael F.

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 effects 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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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 5896.

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Date of creation: Oct 2006
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Handle: RePEc:cpr:ceprdp:5896
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  1. Rudebusch, Glenn & Svensson, Lars, 1999. "Eurosystem Monetary Targeting: Lessons from U.S. Data," Seminar Papers 672, Stockholm University, Institute for International Economic Studies.
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  9. 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.
  10. 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.
  11. Mark Gertler & Jordi Gali & Richard Clarida, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Journal of Economic Literature, American Economic Association, vol. 37(4), pages 1661-1707, December.
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  13. 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.
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  17. Thomas Sargent & Noah Williams & Tao Zha, 2006. "The Conquest of South American Inflation," NBER Working Papers 12606, National Bureau of Economic Research, Inc.
  18. Ellison, Martin, 2003. "The Learning Cost of Interest Rate Reversals," CEPR Discussion Papers 4135, C.E.P.R. Discussion Papers.
  19. Pollock, D. S. G., 2003. "Recursive estimation in econometrics," Computational Statistics & Data Analysis, Elsevier, vol. 44(1-2), pages 37-75, October.
  20. Bullard, James & Schaling, Eric, 2006. "Monetary policy, determinacy, and learnability in the open economy," Working Paper Series 0611, European Central Bank.
  21. Stephen Pollock, 2002. "Recursive Estimation in Econometrics," Working Papers 462, Queen Mary University of London, School of Economics and Finance.
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  23. James B. Bullard, 1991. "Learning, rational expectations and policy: a summary of recent research," Review, Federal Reserve Bank of St. Louis, issue Jan, pages 50-60.
  24. 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.
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