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Robust Control Rules to Shield Against Indeterminacy

Listed author(s):
  • Nicoletta Batini
  • Paul Levine

We address robustness of inflation targeting rules in a New Keynesian model using two approaches. Firstly we use the Hansen-Sargent method, borrowed from the control theory literature, to design robust rules on the basis of the policymaker playing a game against malign nature. This welfare-based approach is intended to deal with worst case scenarios, but does not directly address stability robustness. Furthermore, in the case of forward-looking systems, it does not address indeterminacy robustness; thus a system may have good stability properties, but a small parameter change could lead to indeterminacy. Secondly, we address this latter issue by imposing a probability distribution on problematic parameters, and investigate both the probability of instability and the probability of indeterminacy of the robust rule. For comparison, we apply the same idea to inflation forecast based rules, which have the potential to perform well provided that there is enough interest rate smoothing and that the forecast horizon is not too far ahead

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File URL: http://repec.org/sce2004/up.26953.1081414445.pdf
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Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2004 with number 339.

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Date of creation: 11 Aug 2004
Handle: RePEc:sce:scecf4:339
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  7. Currie,David & Levine,Paul, 2009. "Rules, Reputation and Macroeconomic Policy Coordination," Cambridge Books, Cambridge University Press, number 9780521104609, March.
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  9. Frank Schorfheide, 2000. "Loss function-based evaluation of DSGE models," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 15(6), pages 645-670.
  10. Levine, Paul, 1986. "The formulation of robust policies for rival rational expectations models of the economy," Journal of Economic Dynamics and Control, Elsevier, vol. 10(1-2), pages 93-97, June.
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  14. J. Tetlow, Robert & von zur Muehlen, Peter, 2001. "Robust monetary policy with misspecified models: Does model uncertainty always call for attenuated policy?," Journal of Economic Dynamics and Control, Elsevier, vol. 25(6-7), pages 911-949, June.
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  17. Marc P. Giannoni & Michael Woodford, 2003. "Optimal Interest-Rate Rules: I. General Theory," Levine's Bibliography 506439000000000384, UCLA Department of Economics.
  18. Giannoni, Marc P., 2002. "Does Model Uncertainty Justify Caution? Robust Optimal Monetary Policy In A Forward-Looking Model," Macroeconomic Dynamics, Cambridge University Press, vol. 6(01), pages 111-144, February.
  19. Nelson, Edward & Nikolov, Kalin, 2004. "Monetary Policy and Stagflation in the UK," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 36(3), pages 293-318, June.
  20. Efrem Castelnuovo, 2003. "Taylor Rules and Interest Rate Smoothing in the US and EMU," Macroeconomics 0303002, EconWPA.
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  23. Nicoletta Batini & Joseph Pearlman, 2002. "Too Much Too Soon: Instability and Indeterminacy with Forward-Looking Rules," Discussion Papers 08, Monetary Policy Committee Unit, Bank of England.
  24. Laxton, Douglas & Pesenti, Paolo & Juillard, Michel & Karam, Philippe, 2006. "Welfare-based monetary policy rules in an estimated DSGE model of the US economy," Working Paper Series 613, European Central Bank.
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