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Monetary Policy and The Medium-Run Natural Rate

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Abstract

The natural rate of interest is an elusive concept in theory and practice. However, it is essential for central banks’ calibration of the policy rate. Model consistent measures are often too extreme to be used in practice. On the other hand, empirical measures lack the full backing of theory to make them proper benchmarks. This paper proposes a medium-run measure of the natural rate that averages out some excessive fluctuations, while retaining enough connection to economic theory to make it optimal under certain circumstances. The discussion also provides a framework on how to evaluate and meaningfully address concerns by policymakers regarding the natural rate. The results suggest that a medium-run measure that concentrates on natural rate fluctuations in the range of two to five years ahead can be reasonable empirically and theoretically.

Suggested Citation

  • Vasco Curdia, 2025. "Monetary Policy and The Medium-Run Natural Rate," Working Paper Series 2025-24, Federal Reserve Bank of San Francisco.
    • Handle: RePEc:fip:fedfwp:101956
    DOI: 10.24148/wp2025-24
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    References listed on IDEAS

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    1. Carvalho, Carlos & Ferrero, Andrea & Nechio, Fernanda, 2016. "Demographics and real interest rates: Inspecting the mechanism," European Economic Review, Elsevier, vol. 88(C), pages 208-226.
    2. Thomas Laubach & John C. Williams, 2003. "Measuring the Natural Rate of Interest," The Review of Economics and Statistics, MIT Press, vol. 85(4), pages 1063-1070, November.
    3. Jens H. E. Christensen & Glenn D. Rudebusch, 2012. "The Response of Interest Rates to US and UK Quantitative Easing," Economic Journal, Royal Economic Society, vol. 122(564), pages 385-414, November.
    4. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
    5. J. Durbin, 2002. "A simple and efficient simulation smoother for state space time series analysis," Biometrika, Biometrika Trust, vol. 89(3), pages 603-616, August.
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    Keywords

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    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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