url
9
May
2014

SIMPLE MONETARY POLICY RULES UNDER MODEL UNCERTAINTY: Introduction 4

One argument for doing so is that the relatively low level of funds rate volatility seen in the data may be a consequence of a preference on the part of policymakers for low interest rate volatility. Even if no fundamental preference for low interest rate volatility exists, two reasons remain to focus on rules that generate moderate levels of interest rate volatility. First, linear policy rules that generate highly volatile interest rates proscribe frequent and large violations of the non-negativity constraint on the federal funds rate. In principle, one could analyze nonlinear rules that incorporate this lower bound on interest rates, but doing so would raise the computational costs of our analysis by orders of magnitude.6 Second, the hypothesized invariance of the estimated model parameters to changes in policy rules is unlikely to hold true under policies that are so dramatically different (in terms of funds rate volatility) from those seen during the sample periods over which the models were estimated. Electronic Payday Loans Online

The outline of the paper is as follows. Section 2 provides a brief description of the four models. Section 3 analyzes the inflation-output volatility frontier of each model for the following classes of policy rules: 3-parameter rules in which the funds rate responds to the current output gap, a moving average of the inflation rate, and the lagged funds rate; more complicated rules that incorporate a larger number of observed state variables; and rules that incorporate model-based forecasts of the output gap and inflation rate. This section also considers the extent to which these results are sensitive to the information lags that policymakers typically face. Section 4 analyzes the performance of other simple rules and investigates several potential explanations for the superior performance of rules with a coefficient near unity on the lagged interest rate. Section 5 compares the extent to which simple and complicated rules are robust to model uncertainty. Conclusions then follow.

One argument for doing so is that the relatively low level of funds rate volatility seen in the data may be a consequence of a preference on the part of policymakers for low interest rate volatility. Even if no fundamental preference for low interest rate volatility exists, two reasons remain to focus on rules that generate moderate levels of interest rate volatility. First, linear policy rules that generate highly volatile interest rates proscribe frequent and large violations of the non-negativity constraint on the federal funds rate. In principle, one could analyze nonlinear rules that incorporate this lower bound on interest rates, but doing so would raise the computational costs of our analysis by orders of magnitude.6 Second, the hypothesized invariance

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