Comments on Backward-Looking Interest-Rate Rules, Interest-Rate Smoothing, and Macroeconomic Instability

22 Pages Posted: 2 Nov 2007

See all articles by Charles T. Carlstrom

Charles T. Carlstrom

Federal Reserve Bank of Cleveland

Timothy S. Fuerst

University of Notre Dame

Date Written: December 2003

Abstract

Benhabib, Schmitt-Grohe, and Uribe (2003) argue that if you relied solely on local analysis you would be led to believe that aggressive, backward-looking interest rate rules are sufficient for determinacy. But from the perspective of global analysis, backward-looking rules do not guarantee uniqueness of equilibrium and indeed may lead to cyclic and even chaotic equilibria. This comment argues that this result is premature. We utilize a discrete time model and make two observations. First, compared to their continuous time model, the cyclic equilibria under a backward-looking rule are much less likely to arise in a discrete time model. Second, pure backward-looking rules are less likely to suffer from these global indeterminacy problems than rules that also include current or future inflation.

Keywords: interest rates, monetary policy, central banking

JEL Classification: E4, E5

Suggested Citation

Carlstrom, Charles T. and Fuerst, Timothy S., Comments on Backward-Looking Interest-Rate Rules, Interest-Rate Smoothing, and Macroeconomic Instability (December 2003). FRB of Cleveland Working Paper No. 03-19, Available at SSRN: https://ssrn.com/abstract=1026078 or http://dx.doi.org/10.2139/ssrn.1026078

Charles T. Carlstrom (Contact Author)

Federal Reserve Bank of Cleveland ( email )

PO Box 6387
Cleveland, OH 44101-1387
United States
216-579-2294 (Phone)
216-579-3050 (Fax)

Timothy S. Fuerst

University of Notre Dame ( email )

Notre Dame, IN 46556
United States