The Optimal Form of Interest Rate Targeting

28 Pages Posted: 4 Mar 1999

See all articles by Julian Wright

Julian Wright

National University of Singapore (NUS) - Department of Economics

Graeme Guthrie

Victoria University of Wellington - School of Economics & Finance

Date Written: December 8, 1998

Abstract

Most central banks currently implement monetary policy by targeting a short-term interest rate. This paper asks: "What is the optimal form for such interest rate targeting, given the objectives facing central banks?" We find the optimal rule is for the central bank to change the target rate whenever the deviation between its preferred rate and the current target rate reaches some critical level, and in this case the target rate is changed by a discrete amount in the direction of its preferred rate. Despite the simplicity of this rule, we are able to replicate a number of puzzling features of interest rate targeting observed in practice. Hazard functions of target changes are constructed and comparative static results evaluated, using the model calibrated to United States data.

JEL Classification: E43, E52, E58

Suggested Citation

Wright, Julian and Guthrie, Graeme, The Optimal Form of Interest Rate Targeting (December 8, 1998). Available at SSRN: https://ssrn.com/abstract=142928 or http://dx.doi.org/10.2139/ssrn.142928

Julian Wright (Contact Author)

National University of Singapore (NUS) - Department of Economics ( email )

AS2 Level 6, 1 Arts Link
Singapore 117570
Singapore
6568743941 (Phone)
6567752646 (Fax)

HOME PAGE: http://profile.nus.edu.sg/fass/ecsjkdw/

Graeme Guthrie

Victoria University of Wellington - School of Economics & Finance ( email )

P.O. Box 600
Wellington 6140
New Zealand
64 4 463 5763 (Phone)

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