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Policy Rule Legislation in Practice

27 Pages Posted: 1 Dec 2015  

Alex Nikolsko‐Rzhevskyy

Lehigh University - Department of Economics

David H. Papell

University of Houston - Department of Economics

Ruxandra Prodan

University of Houston - Department of Economics

Date Written: July 13, 2015

Abstract

The legislated policy rules proposed by the Federal Reserve Accountability and Transparency Act of 2014 and the Financial Regulatory Improvement Act of 2015 have the potential to transform the conduct of monetary policy. If enacted, the Fed would have the obligation to explicitly state a benchmark for how the federal funds rate would respond to variables such as inflation and the output gap that enter into different variants of Taylor rules. While the Fed would choose its own legislated policy rule, it would be required to explain deviations from the rule and/or changes to the rule. Suppose that policy rule legislation had been in place for the past 60 years. When would the Fed have been in compliance, and when would there have been deviations from or changes to the rule? The central result of the paper is that, among the class of rules we consider, there is no single legislated policy rule that would have avoided large deviations over extended periods of time. Rules that produce low deviations during most of the 1950s and early 1960s produce high deviations during the late 1960s and between 1975 and 1985. More recently, rules that produce low deviations during the first half of the 2000s produce high deviations during the first half of the 2010s, and vice versa. If the legislation was adopted and the Fed wanted to avoid deviations from and/or changes to the rule, this would increase the predictability of monetary policy. Based on historical and statistical research showing that economic performance is better in rules-based than in discretionary eras, we believe this would be a desirable outcome.

Suggested Citation

Nikolsko‐Rzhevskyy, Alex and Papell, David H. and Prodan, Ruxandra, Policy Rule Legislation in Practice (July 13, 2015). Available at SSRN: https://ssrn.com/abstract=2697168 or http://dx.doi.org/10.2139/ssrn.2697168

Alex Nikolsko-Rzhevskyy

Lehigh University - Department of Economics ( email )

620 Taylor Street
Bethlehem, PA 18015
United States

HOME PAGE: http://www.nikolsko-rzhevskyy.com

David H. Papell (Contact Author)

University of Houston - Department of Economics ( email )

Houston, TX 77204-5882
United States

Ruxandra Prodan

University of Houston - Department of Economics ( email )

Houston, TX 77204
United States

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