When Preferences for a Stable Interest Rate Become Self-Defeating

30 Pages Posted: 12 Jun 2016

See all articles by Ragna Alstadheim

Ragna Alstadheim

Norges Bank

Øistein Røisland

Norges Bank - Department of Economics

Date Written: May 25, 2016

Abstract

Monetary policy makers often seem to have preferences for a stable interest rate, in addition to stable inflation and output. In this paper we investigate the implications of having an interest rate level term in the loss function when the policymaker lacks commitment technology. We show that preferences for interest rate stability may lead to equilibrium indeterminacy. But even when determinacy is achieved, such preferences can become self-defeating, in the meaning of generating a less stable interest rate than in the case without preferences for interest rate stability. Aiming to stabilize the real interest rate instead of the nominal rate is more robust, as it always gives determinacy and also tends to give a more stable nominal interest rate than when the policymaker aims to stabilize the nominal rate.

Keywords: Monetary policy, Discretion, Interest rate stability

JEL Classification: E52, E58

Suggested Citation

Alstadheim, Ragna and Røisland, Øistein, When Preferences for a Stable Interest Rate Become Self-Defeating (May 25, 2016). Norges Bank Working Paper 08/2016. Available at SSRN: https://ssrn.com/abstract=2793692

Ragna Alstadheim (Contact Author)

Norges Bank ( email )

P.O. Box 1179
Oslo, N-0107
Norway

Øistein Røisland

Norges Bank - Department of Economics ( email )

P.O. Box 1179
Oslo, N-0107
Norway
+47 22 31 67 39 (Phone)
+47 22 31 60 50 (Fax)

Register to save articles to
your library

Register

Paper statistics

Downloads
16
Abstract Views
190
PlumX Metrics