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Robust Monetary Rules under Unstructured and Structured Model Uncertainty

  • Paul Levine

    (University of Surrey)

  • Joseph Pearlman

    (London Metropolitan University)

This paper compares two contrasting approaches to robust monetary policy design. The first developed by Hansen and Sargent (2003, 2007) assumes unstructured model uncertainty and uses a minimax robustness criterion to design monetary rules. This contrasts with an older literature that structures uncertainty by seeking rules that are robust across competing views of the economy. This paper carries out and compares robust design exercises using both approaches using a standard ‘canonical New Keynesian model’. We pay particular attention to a number of issues: First, we distinguish three possible forms of the implied game between malign nature and the policymaker in the Hansen-Sargent procedure. Second, in both approaches, we examine the consequences for robust rules of the zero lower bound (ZLB) constraint on the nominal interest rate, the monetary instrument. Finally, again for both types of robustness exercise we explore the implications of policy design when the policymaker is obliged to use simple Taylor-type interest rate rules.

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Paper provided by School of Economics, University of Surrey in its series School of Economics Discussion Papers with number 0707.

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Length: 49 pages
Date of creation: Oct 2007
Date of revision:
Handle: RePEc:sur:surrec:0707
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  1. Hansen, Lars Peter & Sargent, Thomas J., 2003. "Robust control of forward-looking models," Journal of Monetary Economics, Elsevier, vol. 50(3), pages 581-604, April.
  2. repec:cup:cbooks:9780521441964 is not listed on IDEAS
  3. Levine, Paul & McAdam, Peter & Pearlman, Joseph G. & Pierse, Richard, 2008. "Risk Management in Action. Robust monetary policy rules under structured uncertainty," Working Paper Series 0870, European Central Bank.
  4. Nicoletta Batini & Alejandro Justiniano & Paul Levine & Joseph Pearlman, 2004. "Robust Inflation-Forecast-Based Rules to Shield against Indeterminacy," School of Economics Discussion Papers 0804, School of Economics, University of Surrey.
  5. Coenen, Günter & Wieland, Volker, 2003. "The Zero-Interest Rate Bound and the Role of the Exchange Rate for Monetary Policy in Japan," CEPR Discussion Papers 3895, C.E.P.R. Discussion Papers.
  6. Adam, Klaus & Billi, Roberto M., 2005. "Discretionary monetary policy and the zero lower bound on nominal interest rates," CFS Working Paper Series 2005/16, Center for Financial Studies (CFS).
  7. 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.
  8. Coenen, Gunter, 2007. "Inflation persistence and robust monetary policy design," Journal of Economic Dynamics and Control, Elsevier, vol. 31(1), pages 111-140, January.
  9. Tatiana Kirsanova & Andrew P. Blake, 2010. "Discretionary Policy and Multiple Equilibria in LQ RE Models," 2010 Meeting Papers 789, Society for Economic Dynamics.
  10. Eggertsson, Gauti B., 2006. "The Deflation Bias and Committing to Being Irresponsible," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 38(2), pages 283-321, March.
  11. 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.
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