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Forecasting Feds Fund Rate: 1982-2014

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  • Mohajeryami, Saeed

Abstract

Federal funds rate in the US is the interest rate that the banks pay each other for lending funds overnight. Fed funds rate is an important benchmark in the economy because of its significant impact on many other financial indices. The target rate is determined by Federal Open Market Committee (FOMC). Federal Reserve’s method of determining “reaction function” is subject to speculation for a long time. Taylor believed that the reaction function can be specified as a weighted average of deviations of inflation and unemployment from target values. But this model, even though worked for a long time, are under attack by new economists and like many old models are obsolete because of the various structural change in the society and economy. In this work, different models and different parameters are used to determine the reaction function. According to the results, VAR model gives the best FERMS (5.7%). Another interesting observation is that the inflation rate does not granger-cause Feds fund target rate which is not consistent with Taylor rule. On the other hand, the unemployment rate plays an important role in the Feds reaction function.

Suggested Citation

  • Mohajeryami, Saeed, 2015. "Forecasting Feds Fund Rate: 1982-2014," MPRA Paper 67142, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:67142
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    References listed on IDEAS

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    1. Belongia, Michael & Hinich, Melvin, 2009. "The evolving role and definition of the federal funds rate in the conduct of U.S. monetary policy," MPRA Paper 18970, University Library of Munich, Germany, revised Aug 2009.
    2. Katherine Femia & Steven Friedman & Brian P. Sack, 2013. "The effects of policy guidance on perceptions of the Fed’s reaction function," Staff Reports 652, Federal Reserve Bank of New York.
    3. James K. Galbraith & Olivier Giovannoni & Ann J. Russo, 2007. "The Fed's Real Reaction Function: Monetary Policy, Inflation, Unemployment, Inequality-and Presidential Politics," Economics Working Paper Archive wp_511, Levy Economics Institute.
    4. Bernanke, Ben S & Blinder, Alan S, 1992. "The Federal Funds Rate and the Channels of Monetary Transmission," American Economic Review, American Economic Association, vol. 82(4), pages 901-921, September.
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    JEL classification:

    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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