New revision: “Monetary Policy with Model Uncertainty: Distribution Forecast Targeting” (with Noah Williams, Princeton University), September 2005.
New presentation: “Monetary Policy and Central Bank Communication,” at the conference “ECB and Its Watchers,” Frankfurt, June 3, 2005.
New discussion: “Discussion of Faruqee, Laxton, Muir, and Pesenti, ‘Smooth Landing or Crash? Model-based Scenarios of Global Current Account Rebalancing’,” presented at the NBER Conference on G7 Current Account Imbalances, Newport, RI, June 2005.
First draft: June 2004
Published: May 2005
“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 complicated 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.
JEL Classification: E42, E52, E58
Keywords: Inflation targeting, optimal monetary policy, forecasts.
New publication: “Monetary Policy with Judgment: Forecast Targeting,” International Journal of Central Banking, premier issue, May 2005.
New comment: “Comment on Brock and Durlauf, ‘Local Robustness Analysis: Theory and Applications’,” January 2005.
New briefing paper: “Oil Prices and ECB Monetary Policy,” January 2005.
New publication: “Targeting Rules vs. Instrument Rules for Monetary Policy: What Is Wrong with McCallum and Nelson?” Federal Reserve Bank of St. Louis Review 87 (2005) 613-626.
New publication: “Optimal Policy Projections” (with Robert J. Tetlow, Federal Reserve Board), International Journal of Central Banking 1(3) (2005) 177-207.