Monetary Policy with Judgment: Forecast Targeting

Lars Svensson

MPRA Paper from University Library of Munich, Germany

Abstract: "Forecast targeting", forward-looking monetary policy that uses central-bank judgment to construct optimal policy projections of the target variables and the instrument rate, may perform substantially better than monetary policy that disregards judgment and follows a given instrument rule. This is demonstrated in a few examples for two empirical models of the U.S. economy, one forward looking and one backward looking. A complicated infinite-horizon central-bank projection model of the economy can be closely approximated by a simple finite system of linear equations, which is easily solved for the optimal policy projections. Optimal policy projections corresponding to the optimal policy under commitment in a timeless perspective can easily be constructed. The whole projection path of the instrument rate is more important than the current instrument setting. The resulting reduced-form reaction function for the current instrument rate is a very complex function of all inputs in the monetary-policy decision process, including the central bank’s judgment. It cannot be summarized as a simple reaction function such as a Taylor rule. Fortunately, it need not be made explicit.

Keywords: Inflation targeting; optimal monetary policy; forecasts (search for similar items in EconPapers)
JEL-codes: G0 G00 (search for similar items in EconPapers)
Date: 2005-02-08
New Economics Papers: this item is included in nep-cba, nep-for, nep-mac and nep-mon
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Citations: View citations in EconPapers (115)

Published in International Journal of Central Banking Number 1.Volume(2005): pp. 1-54

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Journal Article: Monetary Policy with Judgment: Forecast Targeting (2005)
Working Paper: Monetary Policy with Judgement: Forecast Targeting (2005)
Working Paper: Monetary policy with judgment: forecast targeting (2005)
Working Paper: Monetary Policy with Judgment: Forecast Targeting (2005)
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:819

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