Evaluating Inflation Targeting Using a Macroeconometric Model

52 Pages Posted: 19 Jul 2006

See all articles by Ray C. Fair

Ray C. Fair

Yale University - Cowles Foundation; Yale School of Management - International Center for Finance

Multiple version iconThere are 3 versions of this paper

Date Written: March 2007

Abstract

This paper uses a structurally estimated macroeconometric model, denoted the MC model, to evaluate inflation targeting in the United States. Various interest rate rules are tried with differing weights on inflation and output, and various optimal control problems are solved using differing weights on inflation and output targets. Price-level targeting is also considered. The results show that 1) there are output costs to inflation targeting, especially for price shocks, 2) price-level targeting is dominated by inflation targeting, 3) the estimated interest rate rule of the Fed (in Table 4) is consistent with the Fed placing equal weights on inflation and unemployment in a loss function, 4) the estimated interest rate rule does a fairly good job at lowering variability, and 5) considerable economic variability is left after the Fed has done its best. Overall, the results suggest that the Fed should continue to behave as it has in the past.

Keywords: Inflation targeting, Interest rate rules, Optimal control

JEL Classification: E52

Suggested Citation

Fair, Ray C., Evaluating Inflation Targeting Using a Macroeconometric Model (March 2007). Cowles Foundation Discussion Paper No. 1570; Yale ICF Working Paper No. 06-23. Available at SSRN: https://ssrn.com/abstract=917905

Ray C. Fair (Contact Author)

Yale University - Cowles Foundation ( email )

Box 208281
New Haven, CT 06520-8281
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203-432-3715 (Phone)
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HOME PAGE: http://fairmodel.econ.yale.edu

Yale School of Management - International Center for Finance ( email )

Box 208200
New Haven, CT 06520
United States
203-432-3715 (Phone)
203-432-6167 (Fax)

HOME PAGE: http://fairmodel.econ.yale.edu

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