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Anticipated Alternative Instrument-Rate Paths in Policy Simulations

  • Lars E.O. Svensson

    (Sveriges Riksbank and Princeton University)

  • Stefan Laseen

    (Sveriges Riksbank)

This paper specifies how to do policy simulations with alternative instrument-rate paths in DSGE models such as Ramses, the Riksbank’s main model for policy analysis and forecasting. The new element is that these alternative instrument-rate paths are anticipated by the private sector. Such simulations correspond to situations where the Riksbank transparently announces that it plans to implement a particular instrument-rate path and where this announcement is believed by the private sector. Previous methods have instead implemented alternative instrument-rate paths by adding unanticipated shocks to an instrument rule, as in the method of modest interventions by Leeper and Zha (2003). This corresponds to a very different situation where the Riksbank would nontransparently and secretly plan to implement deviations from an announced instrument rule. Such deviations are in practical simulations normally both serially correlated and large, which seems inconsistent with the assumption that they would remain unanticipated by the private sector. Simulations with anticipated instrument-rate paths seem more relevant for the transparent flexible inflation targeting that the Riksbank conducts. We provide an algorithm for the computation of policy simulations with arbitrary restrictions on nominal and real instrument-rate paths for an arbitrary number of periods after which a given policy rule, including targeting rules and explicit, implicit, or forecast-based instrument rules is implemented. When inflation projections are sufficiently sensitive to the real interest-rate path, restrictions on real interest-rate paths provide more intuitive and robust results, whereas restrictions on nominal interest-rate path may provide somewhat counter-intuitive results.

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Paper provided by Society for Economic Dynamics in its series 2009 Meeting Papers with number 788.

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Date of creation: 2009
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Handle: RePEc:red:sed009:788
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

Web page: http://www.EconomicDynamics.org/
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  1. Malin Adolfson & Stefan Laséen & Jesper Lindé & Lars E. O. Svensson, 2011. "Optimal monetary policy in an operational medium-sized DSGE model," International Finance Discussion Papers 1023, Board of Governors of the Federal Reserve System (U.S.).
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